Tutoring Monk. Exam 3 Notes Chapter 6

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1 Tutoring Monk Have No Fear, The Monks Are Here Exam 3 Notes Chapter 6 To supplement these notes, please watch the videos FIRST. Video Access:

2 Chapter 6 Please refer to the Video Library to understand each concept clearly. These are the key points that you must KNOW! Operating Cycle: The cycle a business goes through to make money. How? Purchase, Sell, and Collect Example: Food Store has shortest operating cycle. Boeing (they make airplanes) have the longest operating cycle. Control Account- an account that controls a bunch of accounts ( Examples: Accounts Receivable and Accounts Payable) Subsidiary Ledger- Controls individual accounts in the control account. You get specific information. If you want to look at particular information of someone then you would look at the subsidiary ledger. If you want to look at the a total amount then you would look in the control account. Two types of income statements: Service and a Merchandising. What is the primary difference between the two? Cost of Goods Sold (COGS) and Gross Profit do not appear on the Service Company s Income Statement. Net Sales= Sales- Discounts- Allowances and returns Gross Profit: How do you get it? Net Sales COGS What is Operating Income? Operating income is a measure of profitability. How do you get it? Take Net Sales minus COGS and all expenses incurred in operating the business. Or we can also say the Gross Profit minus the other expenses. Operating expenses are like the expense to deliver a merchandise, gas expense and packaging expense. Keywords for you to know: Perpetual Inventory- Automated, Large company, Low volume and high per-unit Cost. We use the account name Inventory. Remember under this system two journal entries are made to record a sale. The first entry is to recognize the sale and the second entry is to recognize the COGS and update inventory. Example: Local Jewelry Store and Home Depot/ Office Depot

3 Purchase of a laptop under the perpetual inventory system would be done by doing the following: A) Purchase Laptop for $1000 cash Inventory 1,000 ( Debit Inventory) Cash 1,000 ( Credit Cash) Periodic Inventory: Manual, small company, high volume and low per unit Cost. We use the account name Purchases. Purchase of a laptop under the periodic inventory system would be done by doing the following: A) Purchase Laptop for $1000 cash Purchases 1,000 ( Debit Inventory) Cash 1,000 ( Credit Cash) Example: Newspaper Stand, Hot Dog Stand You have to calculate the COGS under the periodic inventory system. How? Formula : Beg Inventory + Purchases- Ending Inventory= COGS You do this at the end after you take complete physical count. That s you will get the ending inventory you gotta count it. Inventory Shrinkage- Merchandise gets jacked, stolen, spoiled. Debit COGS and Credit Inventory Creating a Cost of Goods Sold Account in the Periodic Inventory System: This is also part of the closing process for periodic inventory system. Debit COGS and Credit Inventory (beginning) and Purchases. Inventory: What is it after all? It is basically all the items that we have up for Sale. So if I am selling watches and I have a Rolex for myself that I wear for personal use would my personal watch be added into inventory? ABSOLUTELY NOT! Physical Count of Inventory will always be LESS than what you think you have mathematically.

4 Cost of transportation: Transportation In is treated like an expense. It becomes part of the cost of the inventory. If a company is not using periodic, then they are using perpetual. A company must use ONE of them. Sales Discounts and Allowances: Contra Revenue Accounts. Ultimately reduce net profit. Sales Revenue- Always a credit balance and when is it recognized? Revenue is recognized when the merchandise (or the good as we know it) is delivered. This is from the REALIZATION principle! Sales Allowance- Basically means the buyer keeps the merchandise, but pays a reduced price. This account has a debit balance. Transportation In- has a debit balance. Gross Profit Margin is calculated by taking Gross Profit/ Sales. Gross Profit and Gross Margin are the same. This is used to indicate popular products, how the product is performing, and, ultimately, what products are working best for the business. Sarbanes Oxley Act- protects lower level employees if they report some malicious activity in the firm. How do you close Cost of Goods sold? Cost of Goods Sold (COGS) is treated like an expense. The question now we have is how do you close Expenses? You simply debit income summary and credit COGS This process is the same in the periodic inventory system and the perpetual inventory system. Credit Terms: Why offer? Speed up the collection of receivables. 3/10, n/60 How do you interpret that? If you pay within 10 days, you get a 3% discount. Otherwise, payment is due within 60 days and you get NO DISCOUNT. Remember you would benefit the most by getting the highest discount in the discount period and you want the longest time possible to pay off if you TAKE NO DISCOUNT. Net Method:

5 Under this method we do all our purchases net all possible discounts. In other words, we assume that we will always take the discount. Failure to take the discount results in a debit to Discount Lost. Remember, the keyword lost is treated like an expense. Gross Method: Under this method, we do all our purchases at the gross invoice price. If we end up taking the discount within the discount period, then we have to credit an account name Discount Taken. The word Taken acts like revenue. Income Taxes: Sales taxes collected from a customer are a liability. Watch SAMPLE Problems for MATH PRACTICE! Tutoring Monk