Chapter 8

1. Chapter 8 Purchasing/ Human Resources/ Payment Process: Recording and Evaluating Expenditure Process Activities

2. What is the Difference between Merchandising and Manufacturing Inventories? • Merchandising • Inventory purchased to be resold • Merchandise Inventory account • Manufacturing • Inventory purchased to be used to make products • Raw Materials Inventory account

3. What is the Difference between Periodic and Perpetual Inventory Systems? • Periodic • Determine ending inventory and cost of goods sold at the end of the period • Perpetual • Determine cost of goods sold and ending inventory on a continuous basis

4. How are Inventory Activities Recorded in a Periodic System? • Purchase • Debit Purchases • Credit Accounts Payable • Return or allowance • Debit Accounts Payable • Credit Purchase Returns and Allowances • Freight or insurance on purchases • Debit Freight-in (Insurance-in) • Credit Accounts Payable (Cash)

5. How are Inventory Activities Recorded in a Perpetual System? • Purchase • Debit Inventory • Credit Accounts Payable • Return or allowance • Debit Accounts Payable • Credit Inventory • Freight or insurance on purchases • Debit Inventory • Credit Accounts Payable (Cash)

6. What is the Difference between the Net Price and Gross Price Methods? • Net price • Purchases and purchase returns/allowances are recorded net of the available discount • Discounts lost are recorded separately • Gross price • Purchases and purchase returns/allowances are recorded at the gross price • Discounts taken are recorded separately

7. Example • A company purchases $1,000 (gross) of inventory (terms: 2/10, n/30), subsequently returns $200 (gross) of the inventory, and pays for the inventory within the discount period.

8. Net Price Method/Perpetual • Purchase • Increase (debit) inventory by $980 ($1,000 * 0.98) • Increase (credit) accounts payable by $980 • Return • Decrease (debit) accounts payable by $196 ($200 * 0.98) • Decrease (credit) inventory by $196 • Payment within discount period • Decrease (debit) accounts payable by $784 ($980 - $196) • Decrease (credit) cash by $784

9. Gross Price/Perpetual • Purchase • Increase (debit) inventory by $1,000 • Increase (credit) accounts payable by $1,000 • Return • Decrease (debit) accounts payable by $200 • Decrease (credit) inventory by $200 • Payment within discount period • Decrease (debit) accounts payable by $800 ($1,000 - $200) • Decrease (credit) cash by $784 ($800 * 0.98) • Recognize discount taken (credit inventory) for $16

10. What is the Balance in Inventory under Each Pricing Method? • Net price • Inventory = $980 - $196 = $784 • Gross price • Inventory = $1,000 - $200 - $16 = $784

11. What if the Payment is Made After the Discount Period has Expired? • Net price • Decrease (debit) accounts payable by $784 ($980 - $196) • Recognize discount lost (debit Discounts Lost) for $16 • Decrease (credit) cash by $800 ($784/0.98) • Gross price • Decrease (debit) accounts payable by $800 ($1,000 - $200) • Decrease (credit) cash by $800

12. Now What is the Balance of Inventory under Each Pricing Method? • Net price • Inventory = $980 - $196 = $784 • Gross price • Inventory = $1,000 - $200 = $800 • Does this mean that the inventory under the gross price method is worth more? • No, it simply reflects management’s beliefs concerning discounts. • Gross = cost reduction when taken • Net = financing cost when lost

13. What is the Basic Flow of Information in the Payroll Process? • Employees record time worked on time cards and factory records time worked on time tickets • Timekeeping compares time cards and time tickets • Payroll records time worked, deductions, etc. • Accounts payable approves payroll and notifies cashier • Cashier pays employees

14. What is the Difference between Gross Pay and Net Pay from the Employer’s Point of View? • Gross pay—salary and wage expense (amount incurred in an attempt to generate revenue) • Net pay—cash outflow to employees • Withholdings—liabilities to pay the entity to which the funds belong

15. What is the Difference between Salary/Wage Expense and Payroll Tax Expense? • Salary/wage expense—expense incurred from using employees in an attempt to generate revenue • Payroll tax expense—expense incurred due to having employees (matching FICA and unemployment taxes)

16. When are Expenses Recognized? • When incurred, regardless of when cash is paid. Assume December 31 year for examples that follow. • Example #1—receive a utility bill in December, pay the bill in January, expense is recognized in December • Example #2—pay insurance for 6 months in November, recognize 2 months of insurance expense in December • Example #3—pay the local newspaper in December for an ad to be run in December, recognize expense in December

17. Inventory Example • Inventory is an asset when purchased • When inventory is sold, we recognize the expense, called Cost of Goods Sold

18. How are Expenditure Process Activities Communicated to Users? • Income statement • Discounts lost, Loss on Inventory, other expenses • Cost of goods sold • Balance sheet • Ending balance of inventory, other assets, and liabilities • Statement of cash flows • Cash paid for inventory and other expenditure process items

19. How can we Estimate the Cash Paid for Inventory? • Beginning inventory (balance sheet) • + Net purchases (calculated) • = Maximum inventory available • Cost of goods sold (income statement) • = Ending inventory (balance sheet) • Then,

20. Estimating Cash Paid for Inventory, Continued • Beginning accounts payable (balance sheet) • + Net purchases (from inventory account) • = Maximum amount owed to suppliers • Cash paid for inventory (calculated) • = Ending accounts payable (balance sheet)