In Unit 1 we introduced the three main types of businesses, merchandising, service and manufacturing. Merchandising companies purchase goods that are ready for sale and then sell them to customers. Merchandising companies include auto dealerships, clothing stores, and supermarkets, all of which earn revenue by selling goods to customers.
In a merchandising sales transaction, the seller sells a product and transfers the legal ownership (title) of the goods to the buyer. A business document called an invoice (a sales invoice for the seller and a purchase invoice for the buyer) becomes the basis for recording the sale.
The following video provides an overview of the difference between Merchandising and Service companies and their respective accounting needs.
An invoice is a document prepared by the seller of merchandise and sent to the buyer. The invoice contains the details of a sale, such as the number of units sold, unit price, total price billed, terms of sale, and manner of shipment.
|BRYAN WHOLESALE CO.||Invoice No.: 1258|
|476 Mason Street||Date: December 19|
|Detroit, MI 48823|
|Customer’s Order No.: 218|
|Sold to:||Baier Company||Shipped To||Baier Company|
|Address:||2255 Hannon St.||Address:||2255 Hannon Street|
|Big Rapids, MI 48106||Big Rapids, MI 48106|
|Date Shipped:||December 19|
|Terms:||Net 30, FOB Destination||Shipping Terms:||FOB Destination||Shipped by: Nagel Trucking Co.|
|Description||Item Number||Quantity||Price per Unit||Total Amount|
|True-tone stereo radio||Model No. 5868-24393||200||$100||$20,000|
Do you see a due date on the invoice? What about who pays for shipping? This is all detailed in the terms. You see two types of terms:
- Payment Terms: tells you when an invoice is due and if a discount is offered for early payment
- Shipping Terms: tells you who is responsible for paying for shipping and when the title of the goods passes to the buyer
In some industries, credit terms include a cash discount of 1% to 3% to encourage early payment of an amount due. A cash discount is a deduction from the invoice price that can be taken only if the invoice is paid within a specified time. Sellers call a cash discount a sales discount and buyers call it a purchase discount.Companies often state payment terms as follows:
•1/10, n/30—means a buyer who pays within 10 days following the invoice date may deduct a discount of 1% of the invoice price. If payment is not made within the discount period, the entire invoice price is due 30 days from the invoice date.
•3/EOM, n/60—means a buyer who pays by the end of the month of purchase may deduct a 3% discount from the invoice price. If payment is not made within the discount period, the entire invoice price is due 60 days from the invoice date.
•2/10/EOM, n/60—means a buyer who pays by the 10th of the month following the month of purchase may deduct a 2% discount from the invoice price. If payment is not made within the discount period, the entire invoice price is due 60 days from the invoice date.
•Net 30 —means the entire invoice price is due 30 days from the invoice date without a discount.
Sellers cannot record the sales discount before they receive the payment since they do not know when the buyer will pay the invoice. A cash discount taken by the buyer reduces the cash that the seller actually collects from the sale of the goods, so the seller must indicate this fact in its accounting records.
Companies base discounts on the invoice price of goods. If merchandise is later returned, the returned amount must be deducted from the invoice price before calculating discounts. For example, the invoice price of goods purchased was $ 30,000 and the company returned $ 2,000 of the goods, the seller calculates the 2% discount on $ 28,000 ($30,000 original – $2,000 return).
Shipping terms are used to show who is responsible for paying for shipping and when the title of the goods passes from seller to buyer. To understand how to account for transportation costs, you must know the meaning of the following terms:
- FOB shipping point means “free on board at shipping point”. The buyer incurs all transportation costs after the merchandise has been loaded on a railroad car or truck at the point of shipment. Thus, the buyer is responsible for ultimately paying the freight charges.
- FOB destination means “free on board at destination”. The seller ships the goods to their destination without charge to the buyer. Thus, the seller is ultimately responsible for paying the freight charges.
We will look at how these items factor into journal entries for merchandising companies in the next sections.