Chapter 6, Problem 6.1COP

Accounting for Inventory Orders, Purchases, Sales, Returns, and Discounts (Chapters 5 and 6)

(1) On October 1, the Business Students’ Society (BSS) placed an order for 100 golf shirts at a unit cost of $20, under terms 2/10, n/30. (2) The order was received on October 10, but 20 golf shirts had been damaged in shipment. (3) On October 11, the damaged golf shirts were returned. (4) On October 12, BSS complained that the remaining golf shins were slightly defective so the supplier granted a $100 allowance. (5) BSS paid for the golf .shirts on October 13. (6) During the first week of October, BSS received student and faculty orders for 80 golf shirts, at a unit price of $37.50, on terms 2/10, n/30. (7) The golf shirts were delivered to these customers on October 18. Unfortunately, customers were unhappy with the golf shirts, so BSS permitted them to be returned or gave an allowance of $12.50 per shirt. (8) On October 21, one-half of the golf shirts were returned by customers to BSS.

(9) On October 22, the remaining 40 customers were granted the allowance on account. (10) The customers paid their remaining balances during the week of October 25.

Required:

1. 1. Prepare journal entries for the transactions described above, using the date of each transaction as its reference. Assume BSS uses perpetual inventory accounts. If you complete this problem in Connect, these journal entries will be summarized for you in T-accounts and a trial balance.
2. 2. Report the financial effects of the above transactions in a multistep income statement for the month ended October 31 prepared for internal use. Assume operating expenses, other than cost of soods sold, are $100 and income tax expense is $45.
3. 3. Determine the percentage of net sales that is available to cover operating expenses other than cost of goods sold. By what name is this percentage commonly known?
4. 4. As of October 31, the check dated October 13 had not cleared the bank. How should BSS report this on its October 31 bank reconciliation? Give the journal entry, if any, needed as a result of including this item in the bank reconciliation.

To determine

To prepare: The journal entries of Company B.

Explanation of Solution

Journal Entry:

Journal entry is the method of recording monetary business transactions in chronological order. It records the debit and credit aspects of each transaction to abide by the double-entry system.

Perpetual Inventory System:

It refers to an inventory system that maintains the detailed records of every inventory transactions related to purchases and sales on a continuous basis.

There is no journal entry for the transaction occurred on October 1 because the payment is made in future and the delivery for the order is done in future. Similarly, the sales of orders to faculty and students during the October first week are not transactions and they do not require journal entry.

Prepare the journal entry to record the purchase of golf shirts on account:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 10	Inventory	2,000
	Accounts Payable		2,000
	(To record the purchase of golf shirtson account)

Table (1)

• Inventory is an asset and it increased . Therefore, debit inventory by $2,000.
• Accounts payable is a liability and it is increased. Therefore, credit accounts payable by $2,000.

Prepare the journal entry to record the return of golf shirts:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 11	Accounts Payable	400
	Inventory		400
	(To record the return of golf shirts )

Table (2)

• Accounts payable is a liability and it is decreased. Therefore, debit accounts payable by $400.
• Inventory is an asset and it decreased . Therefore, credit inventory by $400.

Prepare the journal entry to record the payment of allowances:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 12	Accounts Payable	100
	Inventory		100
	(To record the payment of allowances )

Table (3)

• Accounts payable is a liability and it is decreased. Therefore, debit accounts payable by $100.
• Inventory is an asset and it decreased . Therefore, credit inventory by $100.

Prepare the journal entry to record receipt of payment for purchase on account:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 13	Accounts payable	1,500(2)
	Cash		1,470(3)
	Inventory		30(1)
	(To record receipt of payment for purchase on account)

Table (4)

• Accounts payable is a liability and it is decreased. Therefore, debit accounts payable by $1,500
• Cash is an asset and it is decreased. Therefore, credit cash by $1,470
• Inventory is an asset and it decreased . Therefore, credit inventory by $30.

Working note:

Calculate the purchase discount:

$\begin{array}{c}\text{Purchase discount =Purchase×Percentage}\text{of purchase}\text{discount}\\ \text{ =\$1,500(2) × }\frac{2}{\text{100}}\\ \text{= \$30}\end{array}$ (1)

Calculate the value of accounts payable:

$\begin{array}{c}\text{Total}\text{Accounts}\text{payable=}\left(\begin{array}{l}\text{Accounts}\text{payable-Purchase}\text{Returns}\\ \text{-Purchase}\text{Allowances}\end{array}\right)\\ \text{=}\left(\text{\$2,000-\$400-\$100}\right)\\ \text{=\$1,500}\end{array}$ (2)

Calculate the cash paid:

$\begin{array}{c}\text{Cash}\text{paid=Accounts}\text{payable-Purchase}\text{discount}\\ \text{=\$1,500(2)-\$30(1)}\\ \text{=\$1,470}\end{array}$ (3)

Prepare the journal entry at the time of sale:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 18	Accounts Receivable	3,000(4)
	Sales revenue		3,000(4)
	(To record the sales )

Table (5)

• Accounts receivable is an asset and it is increased. Therefore, debit accounts receivable by $3,000.
• Sales revenue is component of stockholders’ equity and it is increased. Therefore, credit sales revenue by $3,000.

Working note:

Calculate the sales revenue:

$\begin{array}{c}\text{Sales}\text{revenue=Number}\text{of}\text{golf}\text{shirts}\text{sold×Price}\text{per}\text{unit}\\ \text{=80shirts×\$37}\text{.50}\\ \text{=\$3,000}\end{array}$ (4)

Prepare the journal entry to record cost of goods sold:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 18	Cost of goods sold	1,470
	Inventory		1,470
	(To record the cost of goods sold)

Table (6)

• Cost of goods sold is an expense account, which is a component of stockholders’ equity and it is decreased. Therefore, debit cost of goods sold by $1,470.
• Inventory is an asset and it is decreased. Therefore, credit inventory by $1,470.

Working note:

Calculate the cost of goods sold:

$\begin{array}{c}\text{Cost}\text{of}\text{goods}\text{sold=}\left(\begin{array}{l}\text{Accounts}\text{payable-}\text{PurchaseReturns}\\ \text{-PurchaseAllowances-Purchase}\text{discount}\end{array}\right)\\ \text{=}\left(\text{\$2000}-\text{\$400}-\text{\$100}-\text{\$30(1)}\right)\\ \text{=\$1,470}\end{array}$ (5)

Prepare the journal entry at the time of sales return and allowances:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 21	Sales returns and Allowances	1,500
	Accounts receivable		1,500
	(To record the sales returns and allowances )

Table (7)

• Sales returns and allowances is contra revenue account equity and it is increased. Therefore, debit sales returns and allowances by $1,500.
• Accounts receivable is an asset and it is decreased. Therefore, credit cash by $1,500.

Working note:

Calculate the sales returns and allowances:

$\begin{array}{c}\text{Sales}\text{returns}\text{and}\text{allowances=}\left(\begin{array}{l}\text{Number}\text{of}\text{golf}\text{shirts}\text{sold×Price}\text{per}\text{unit}\\ \text{×Number}\text{of}\text{golf shirts}\text{returned}\end{array}\right)\\ \text{=80shirts×\$37}\text{.50×}\frac{\text{1}}{\text{2}}\\ \text{=\$1,500}\end{array}$ (6)

Prepare the journal entry to record cost of goods sold:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 21	Inventory	735
	Cost of goods sold		735
	(To record the cost of goods sold)

Table (8)

• Inventory is an asset and it is increased. Therefore, debit inventory by $735.
• Cost of goods sold is an expense account, which is a component of stockholders’ equity and it is decreased. Therefore, credit cost of goods sold by $735.

Working note:

Calculate the cost of goods sold:

$\begin{array}{c}\text{Cost}\text{of}\text{goods}\text{sold=Original}\text{cost}\text{of}\text{goods}\text{sold×Number}\text{of}\text{golf}\text{shirts}\text{returned}\\ \text{=\$1,470(5)×}\frac{\text{1}}{\text{2}}\\ \text{=\$735}\end{array}$ (7)

Prepare the journal entry at the time of sales return and allowances:

Date	Account Title and Explanation	Debit ($)	Credit ($)
October 22	Sales returns and Allowances	500
	Accounts receivable		500
	(To record the sales returns and allowances )

Table (9)

• Sales returns and allowances is contra-revenue account equity and it is increased. Therefore, debit sales returns and allowances by $500
• Accounts payable is a liability and it is increased. Therefore, credit cash by $500

Working note:

Calculate the sales returns and allowances:

$\begin{array}{c}\text{Sales}\text{returns}\text{and}\text{allowances=}\left(\begin{array}{l}\text{Number}\text{of}\text{golf}\text{shirts}\text{returned×}\\ \text{Number}\text{of}\text{golf}\text{shirts}\text{sold}\\ \text{×Allowance}\text{rate}\text{per}\text{unit}\end{array}\right)\\ \text{=}\frac{\text{1}}{\text{2}}\text{×80shirts×\$12}\text{.50}\\ \text{=\$500}\end{array}$ (8)

Prepare the journal entry to record receipt of payment for sales on account:

Date	Account Title and Explanation	Debit ($)	Credit ($)
	Cash	980(10)
	Sales Discounts	20(9)
	Accounts Receivable		1,000(11)
	(To record receipt of payment for sales on account)

Table (10)

• Cash is an asset and it is increased. Therefore, debit cash by $980.
• Sales discount is a contra-revenue account and it is increased. Therefore, debit sales discounts by $20.
• Accounts receivable is an asset and it is decreased. Therefore, credit accounts receivable by $1,000.

Working note:

Calculate the sales discount:

$\begin{array}{c}\text{Sales discount =Sales×Percentage}\text{of sales}\text{discount}\\ \text{ =\$1,000 × }\frac{2}{\text{100}}\\ \text{= \$20}\end{array}$ (9)

Calculate the cost of goods sold

$\begin{array}{c}\text{Cost}\text{of}\text{goods}\text{sold = Accounts receivable – Sales discount}\\ \text{= \$1,000 – \$20}\\ \text{= \$980}\end{array}$ (10)

Calculate the accounts receivable:

$\begin{array}{c}\text{Accounts}\text{receivable=}\left(\begin{array}{l}\text{Sales}\text{revenue-Sales}\text{returns}\text{and}\\ \text{allowances}\end{array}\right)\\ \text{=\$3,000-(\$1,500+\$500)}\\ \text{=\$1,000}\end{array}$ (11)

To determine

To prepare: The multi-step income statement of Company B.

Explanation of Solution

Multi-Step Income Statement:

This is a financial statement which shows income and subtotals of expenses in detail for a given period of time. Multi-step income statement reports gross profit, operating income, and net income.

Prepare the Multi-step income statement of Company B.

Company B
Multi-step Income Statement
For the Year Ended December 31
Particulars	Amount($)
Sales Revenue	3,000
Sales Returns and Allowances	(2,000)
Net Sales	(20)
Cost of Goods Sold	980
Gross Profit	735
Office Expense	245
Salaries and Wages Expense	100
Income from Operations	145
Income Tax Expense	45
Net Income	100

Table (1)

Note: Sales returns and allowances includes the balance of returns ($1,500) on October 21 and the balance of returns ($500) on October 22.

To determine

The name of percentage of net sales that is available to cover operating expenses other than cost of goods sold.

Explanation of Solution

Gross Profit Percentage:

Gross profit is the financial ratio that shows the relationship between the gross profit and net sales. It represents gross profit as a percentage of net sales. Gross Profit is the difference between the net sales revenue, and the cost of goods sold. It can be calculated by dividing gross profit and net sales.

The name of percentage of net sales that is available to cover operating expenses other than cost of goods sold is stated as gross profit percentage because operating expenses are covered by net sales after the cost of goods sold.

Following is the gross profit percentage of Company B:

$\begin{array}{c}\text{Gross}\text{profit}\text{percentage=}\frac{\text{Gross}\text{profit}}{\text{Net}\text{sales}}\text{×100}\\ \text{=}\frac{\text{\$245}}{\text{\$980}}\text{×100}\\ \text{=25}\text{.0\%}\end{array}$

To determine

The way of reporting for the check not cleared by the Company B in the bank reconciliation statement and to prepare journal entry if it is necessary.

Explanation of Solution

Bank Reconciliation Statement:

Bank statement is prepared by bank. The company maintains its own records from its perspective. This is why the cash balance per bank and cash balance per books seldom agree. Bank reconciliation is the statement prepared by company to remove the differences and disagreement between cash balance per bank and cash balance per books.

On the bank reconciliation statement dated October 31 the Company B should deduct the check from the bank balance. There is no need of preparing journal entry as these items require only adjustments to be made in the books of bank reconciliation statement.