Merchandising Operations and the Accounting Cycle - Pearson

OBJECTIVE S4
Adjust and close the accounts
of a merchandising business
under the periodic inventory
system
KEY POINT
Recall that Purchases (not
Inventory) was debited for
merchandise purchased. In the
periodic system, no entries are
made to the Inventory account for
purchases or sales. Beginning
inventory remains on the books
and on the trial balance until
ending inventory replaces it at the
end of the period.
KEY POINT
If you were preparing a work
sheet, you could omit the adjusted
trial balance columns. Once you
understand the mechanics of the
work sheet, you can take a trial
balance amount, add or subtract
the adjustments, and extend the
new amount to either the income
statement or balance sheet
column.
282 Part One The Basic Structure of Accounting
Adjusting and Closing the Accounts
in a Periodic Inventory System
A merchandising business adjusts and closes the accounts much as a service entity
does. The steps of this end-of-period process are the same: If a work sheet is used,
the trial balance is entered and the work sheet completed to determine net income
or net loss. The work sheet provides the data for journalizing the adjusting and
closing entries and for preparing the financial statements.
At the end of the period, before any adjusting or closing entries, the Inventory account
balance is still the cost of the inventory that was on hand at the end of the preceding
period. It is necessary to remove this beginning balance and replace it with
the cost of the inventory on hand at the end of the period. Various techniques may
be used to bring the inventory records up to date.
To illustrate a merchandiser’s adjusting and closing process under the periodic
inventory system, let’s use Austin Sound’s December 31, 2004, trial balance in Exhibit
5S-4. All the new accounts—Inventory, Purchases, Freight In, and the contra accounts—are
highlighted for emphasis. Inventory is the only account that is affected
by the new closing procedures. The additional data item (h) gives the ending inventory
figure $40,200.
Preparing and Using the Work Sheet in a Periodic
Inventory System
The Exhibit 5S-5 work sheet on page 284 is similar to the work sheets we have seen
so far, but a few differences appear. This work sheet is slightly different from the one
you saw in Chapter 4; it does not include adjusted trial balance columns. In most accounting
systems, a single operation combines trial balance amounts with the adjustments
and extends the adjusted balances directly to the income statement and
balance sheet columns. Therefore, to reduce clutter, the adjusted trial balance
columns are omitted so that the work sheet contains four pairs of columns, not five.
Account Title Columns The trial balance lists a number of accounts without balances.
Ordinarily, these accounts are affected by the adjusting process. Examples
include Interest Receivable, Interest Payable, and Amortization Expense. The accounts
are listed in the order they appear in the ledger. If additional accounts are
needed, they can be written in at the bottom, above net income.
Trial Balance Columns Examine the Inventory account, $38,600 in the trial balance.
This $38,600 is the cost of the beginning inventory. The work sheet is designed to replace
this outdated amount with the new ending balance, which in our example is
$40,200 [additional data item (h) in Exhibit 5S-4]. As we shall see, this task is accomplished
later in the columns for the income statement and the balance sheet.
Adjustments Columns The adjustments are similar to those discussed in Chapters
3 and 4. They may be entered in any order desired. The debit amount of each entry
should equal the credit amount, and total debits should equal total credits. You
should review the adjusting data in Exhibit 5S-5 to reassure yourself that the adjustments
are correct.
Income Statement Columns The income statement columns contain adjusted
amounts for the revenues and the expenses. Sales Revenue, for example, is $169,300,
which includes the $1,300 adjustment.
You may be wondering why the two inventory amounts appear in the income
statement columns. The reason is that both beginning inventory and ending inventory
enter the computation of cost of goods sold. Placement of beginning inventory
($38,600) in the work sheet’s income statement debit column has the effect of adding