Problem 17 - Accounting

Question

Merchandise is sold on account to a customer for \(\$ 12,500\), terms FOB shipping point, \(1 / 10, \mathrm{n} / 30\). The seller paid the freight of \(\$ 400\). Determine the following: (a) amount of the sale, (b) amount debited to Accounts Receivable, (c) amount of the discount for early payment, and (d) amount due within the discount period.

Step-by-Step Solution

Answer

Amount of sale: $12,500; debited to Accounts Receivable: $12,900; discount for early payment: $125; amount due within discount period: $12,375.

Step 1: Determine the Amount of the Sale

The amount of the sale is given directly in the problem. Since merchandise is sold for $12,500, this is the amount of the sale. The freight cost does not affect the amount of the sale.

Step 2: Determine the Amount Debited to Accounts Receivable

The terms FOB shipping point mean that the buyer is responsible for freight costs after the merchandise leaves the seller's location. However, since the seller paid the freight of $400, they will add this to the accounts receivable. Therefore, the amount debited to Accounts Receivable is the sale amount plus the freight, which equals $12,900 (i.e., $12,500 + $400).

Step 3: Calculate the Early Payment Discount

The term "1/10, n/30" means a 1% discount is available if payment is made within 10 days. Calculate the discount on the net sale amount which is $12,500 (excluding the freight). The discount is 1% of $12,500, thus the discount amount is $125.

Step 4: Determine the Amount Due Within Discount Period

To find the amount due if paid within the discount period, subtract the discount from the original amount of the sale. Thus, the amount due within the discount period is $12,500 - $125 = $12,375.

Key Concepts

FOB Shipping Point

The term "FOB shipping point" refers to a shipping agreement where the buyer becomes responsible for the shipping costs and risks once the merchandise is dispatched by the seller. In simple terms, the moment the goods leave the seller's premises, they are in the hands of the buyer. This means the buyer needs to cover expenses and manage any potential risks from that point forward.
However, in our exercise, the seller paid for the freight, which was an extra cost of $400. Though the seller initially covered this cost, it's added to the amount the buyer owes under Accounts Receivable.

• Meaning: Ownership transfers at the seller’s location.
• Responsibility: Buyer pays shipping fees and handles risks in transit.

This information is crucial for businesses in terms of managing logistics and understanding financial responsibilities.

Trade Discount

Trade discounts are reductions in the listed price of goods, often provided by sellers to buyers as an incentive for making large purchases or buying in bulk. Though our exercise does not directly involve a trade discount, understanding this concept is key.
Trade discounts do not appear in the accounting records as separate entries. They are usually deducted before the sale price is recorded.

• Purpose: Encourage bulk buying or purchase of outdated stock.
• Accounting: Typically not recorded separately; reduces invoice amount pre-recording.

Businesses derive significant benefits from trade discounts, including improved cash flow and stock management.

Early Payment Terms

"Early payment terms" are conditions that offer buyers a discount for paying invoices quickly, encouraging prompt payments to improve the seller's cash flow. In the exercise, the terms "1/10, n/30" imply that the buyer receives a 1% discount if they pay within 10 days, while the base period for payment is 30 days.
This encourages buyers to settle invoices early and can be an effective cash management strategy. In our scenario, a 1% discount results in a $125 deduction from the $12,500, allowing the buyer to save money if they pay promptly.

• Benefit: Incentivizes timely payments, potentially improving the seller's liquidity.
• Limitation: Requires careful management of cash to take advantage.

Thus, early payment terms can be mutually beneficial; buyers save on payments, while sellers receive quicker capital.

Accounts Payable

Accounts payable are the amounts a company owes to suppliers for purchases made on credit. It reflects the organization's obligation to pay off short-term debts. In relation to our exercise, while it primarily concerns accounts receivable, understanding accounts payable offers a full view of financial transactions in business.
These are recorded on a company's balance sheet and reflect its outstanding liabilities. Keeping accounts payable in check helps maintain good supplier relations and overall financial health.

• Importance: Demonstrates the company's short-term liabilities.
• Management: Timely payments help improve creditworthiness and supplier trust.

For optimum cash flow, businesses must balance their accounts payable and receivable efficiently.

Financial Transactions

Financial transactions encompass all activities involving the exchange of money or goods. Each transaction affects the company's financial statements. In our case, selling merchandise involves several key transactions, such as recording sales and managing accounts receivable.
Financial transactions often involve multiple components, including discounts, freight costs, and terms of payment, all of which need precise accounting to ensure accuracy.

• Elements: Include sales, payments, discounts, and additional costs like freight.
• Impact: Affect financial health, liquidity, and companies’ strategic decisions.

Understanding the complexities of each component helps in making informed financial decisions and maintaining accurate financial records.