CHAPTER 7

DISCUSSION QUESTIONS

1. Describe the nature of a merchandising business.

-A merchandising business earns profit by buying goods from suppliers and reselling them at a higher
price. It focuses on managing inventory and selling tangible products like clothing or groceries, either
directly to consumers as a retailer or in bulk as a wholesaler. Examples include grocery stores and retail
chains.

2. Distinguish the income statement of a service entity from that of a merchandising entity.

-A service entity's income statement includes only service revenue and expenses, while a merchandising
entity’s statement adds sales revenue, cost of goods sold (COGS), and gross profit, reflecting inventory
costs.

3. What is the operating cycle of a merchandising business?

-The merchandising entity purchases inventory, cells that inventory and uses the cash to purchase more
inventory- and the cycle continues.

4. Name and describe at least eight of the more common source documents used by a merchandising
business.

-1. Sales invoice- is prepared by the seller of goods and sent to the buyer.

2. Bill of lading- It is a document used by carriers (trucking, shipping, or airline) that outlines the delivery
terms, including freight details, timing, location, and recipient.

3. Statement of account- is a formal notice to the debtor detailing the accounts already due.

4. Official receipt- evidences the receipt of cash by the seller or the authorized representative.

5. Deposit slips- are printed forms with depositor's name, account number and space for details of the
deposit.

6. Check- is a written order directing a bank to pay a specified amount from the depositor's account to
the named recipient.

7. Purchase requisition- is a written request from an employee or department to purchase goods.

8. Purchase order- is an authorization made by the buyer to the seller to deliver the merchandise as
detailed in the form.

5. What are the steps followed by large merchandisers in their purchase of goods?
1.The user department submits a purchase requisition to the purchasing department.

2.The purchasing department issues a purchase order to a vendor, detailing the items, price, payment
terms, and delivery arrangements.

3.The seller sends an invoice to the buyer upon shipping the merchandise, outlining the transaction
terms.

4.The receiving department verifies the shipment against the purchase order and prepares a receiving
report.

5.The accounts payable department ensures all documents align before approving the invoice for
payment.

6. Differentiate credit period from discount period.

The credit period is the time allowed by the seller for the buyer to pay the invoice without incurring
interest or penalties, typically ranging from 30 to 60 days. The discount period is a specific timeframe
within the credit period during which the buyer can pay early to receive a discount on the total amount,
often to encourage prompt payment.

7. Contrast trade discounts from cash discounts.

-Trade discounts are reductions in price offered by sellers to buyers based on the volume of purchase or
business relationship, typically applied before invoicing. Cash discounts are reductions offered to
encourage early payment, applied after the invoice is issued if payment is made within a specified
period.

8. Who shoulders the transportation costs if the shipping term is FOB shipping point? FOB destination?

-With FOB shipping point, the buyer pays for transportation. With FOB destination, the seller pays for it.

9. Discuss the appropriate treatment of the accounts-transportation in and transportation out.

-Transportation-in is treated as part of the cost of goods purchased and is added to inventory.
Transportation-out is considered a selling expense and is recorded as part of operating costs.

10. There are two acceptable inventory systems-perpetual and periodic. Distinguish one from the other.

-In a perpetual inventory system, inventory is continuously updated in real-time as purchases and sales
occur. In a periodic inventory system, inventory is updated at specific intervals, typically at the end of an
accounting period, based on physical counts.

11. What are the factors considered in the computation of cost of goods sold?
The cost of goods sold (COGS) is calculated by adding the beginning inventory, purchases, and freight-in
costs, then subtracting the ending inventory.

12. What is the justification for the use of the accounts-sales returns and allowances, and purchases
returns and allowances? How are these accounts presented in the income statement?

-Sales returns and allowances and purchases returns and allowances track returns and reductions in
sales or purchases. They are shown as deductions in the income statement, reducing total revenue or
cost of goods sold.

13. From the viewpoint of the seller, how do sales discounts differ from purchases discounts?

-From the seller's viewpoint, sales discounts reduce revenue for early customer payments, while
purchase discounts reduce the cost of goods bought for early supplier payments.

14. Give the pro-forma entries for sales and purchases with value-added tax.

-For sales with VAT, the seller records the total amount (sales plus VAT) as a debit to Accounts
Receivable, credits Sales Revenue for the sales amount, and credits VAT Payable for the VAT. For
purchases, the buyer debits Purchases for the purchase amount, debits VAT Recoverable for the VAT,
and credits Accounts Payable for the total amount (purchase plus VAT).

15. What are the categories of operating expenses? Discuss and give examples of each.

Operating expenses are divided into several categories. Selling expenses cover costs related to
marketing and selling, such as advertising and sales commissions. General and administrative expenses
include costs for running the business, like office salaries, rent, and utilities. Research and development
expenses are related to the creation of new products, including costs for R&D staff and materials.