Problem 26 - Accounting

Question

Summit Co., a furniture wholesaler, sells merchandise to Bitone Co. on account, \(\$ 23,400\), terms \(2 / 10, \mathrm{n} / 30\). The cost of the merchandise sold is \(\$ 14,000\). Summit Co. issues a credit memo for \(\$ 4,400\) for merchandise returned and subsequently receives the amount due within the discount period. The cost of the merchandise returned is \(\$ 2,600\). Journalize Summit Co.'s entries for (a) the sale, including the cost of the merchandise sold, (b) the credit memo, including the cost of the returned merchandise, and (c) the receipt of the check for the amount due from Bitone Co.

Step-by-Step Solution

Answer

Summit Co. makes entries to account for sales, returns, and payment, reflecting an adapted accounts receivable and cash outcomes.

Step 1: Record the Sale on Account

When merchandise is sold on account, record the accounts receivable and sales revenue. For Summit Co., the journal entry on the sale date would be:Date: [Date of Sale]- Debit Accounts Receivable: \( 23,400 \)- Credit Sales Revenue: \( 23,400 \)This records the sale to Bitone Co. on account.

Step 2: Record the Cost of Goods Sold

Simultaneously, record the cost of goods sold by recognizing the expense and reducing inventory:Date: [Date of Sale]- Debit Cost of Goods Sold: \( 14,000 \)- Credit Inventory: \( 14,000 \)This entry reflects the reduction in inventory due to the sale.

Step 3: Record the Credit Memo for Return

Bitone Co. returns merchandise, so Summit Co. issues a credit memo, reducing the amount owed:Date: [Date of Return]- Debit Sales Returns and Allowances: \( 4,400 \)- Credit Accounts Receivable: \( 4,400 \)This credit memo adjusts the receivable balance and increases sales returns.

Step 4: Reverse the Cost of Returned Goods

Reflect the reduction in the cost of goods sold and inventory for the returned merchandise:Date: [Date of Return]- Debit Inventory: \( 2,600 \)- Credit Cost of Goods Sold: \( 2,600 \)This entry restores the inventory and adjusts the cost of goods sold for the return.

Step 5: Record Receipt of Payment with Discount

Summit Co. receives payment within the discount period, so record the cash receipt and any sales discount:Net sales after return: \( 23,400 - 4,400 = 19,000 \)Discount available: 2% of \( 19,000 \) = \( 380 \)Cash received: \( 19,000 - 380 = 18,620 \)Date: [Date of Payment]- Debit Cash: \( 18,620 \)- Debit Sales Discounts: \( 380 \)- Credit Accounts Receivable: \( 19,000 \)This entry accounts for the discounted payment received within the discount period.

Key Concepts

Accounts Receivable

When a business sells goods on credit, the amount owed by the customer is recorded in Accounts Receivable. This is an asset account, reflecting the company's right to receive cash in the future. In our exercise with Summit Co., they recorded a sale to Bitone Co. amounting to $23,400, which increases their Accounts Receivable by the same amount. This entry reflects the open balance that Bitone Co. owes to Summit Co., acknowledging the transaction and expecting payment within the credit terms of the sale.

Sales Revenue

Sales revenue is a crucial component of a company's financial statements, representing the income generated from normal business operations. It is recorded in the accounting system as a credit, indicating an increase in equity. In Summit Co.'s transaction with Bitone Co., the sales revenue was recorded at $23,400. This entry is not only fundamental in showing potential growth but also plays an essential role in income statements, reflecting the business's capacity to earn from its core activities.

Cost of Goods Sold

The cost of goods sold (COGS) represents the direct costs attributable to the production of the goods sold in a company. This is a critical measure as it directly affects the gross profit of the business. For Summit Co., when they sold merchandise worth $23,400, they recorded a COGS of $14,000. This means the company spent $14,000 to procure or manufacture the inventory that was sold to Bitone Co. It's recorded as an expense because it decreases the company’s assets (inventory) by this amount.

Inventory Management

Effective inventory management keeps a business running smoothly by maintaining the right balance of stock levels. Proper recording ensures that what is available in the books matches what is physically available in the warehouse. In our scenario, Summit Co. had to adjust both the Inventory and COGS accounts when Bitone Co. returned merchandise valued at $2,600. This adjustment not only updates the company's records to match the physical count but also ensures accurate financial reporting.

Sales Discount

Sales discounts are reductions in the amount due from customers as an incentive for early payment. In most cases, terms such as 2/10, n/30 are used, meaning a 2% discount is available if payment is made within 10 days of the invoice date. Summit Co.'s application of this discount resulted in a deduction of $380 from the amount due, reducing Bitone Co.'s payment obligation to $18,620. Sales discounts are recorded as a contra-revenue account and are essential for managing cash flow efficiently, promoting prompt payments from customers.