Merchandising companies debit the cost of merchandise to the Inventory account (an asset account) when the merchandise are purchased from the supplier. The Cost of Goods Sold account (an expense account) is debited to reflect the cost of merchandise sold to the customers.
This post is part of the “how to debit and credit” tutorials that illustrate how to record accounting transactions commonly occur in merchandising companies. What are merchandising companies? Merchandising companies buy and sell merchandise as their primary source of revenue. They purchase the merchandise from suppliers/vendors and then resell the merchandise to the customers.
Merchandising companies buy and sell merchandise as their primary source of revenue. They purchase the merchandise from suppliers/vendors and then resell the merchandise to the customers.
The customers may be either companies or individuals. Retailers are merchandising companies with end consumers as their primary customers. Wholesalers are another type of merchandising companies with retailers and other businesses as their primary customers.
What is inventory?
According to IAS 2, inventories are assets: (a) held for sale in the ordinary course of business; (b) in the process of production for such sale; or (c) in the form of materials or supplies to be consumed in the production process or in the rendering of services.
A merchandising company may purchase inventory either using cash or credit. The purchase of merchandise inventory is usually recorded in the accounting system when the company receives the merchandise from the seller.
Each transaction is entered in accounting system based on business documents. In other words, the business documents serve as the written evidence. In fact, no transaction would be recorded without being supported by the business documents.
A canceled check or a cash register receipt is an example of business documents. A cash register receipt indicates the items purchased and amounts paid for each cash purchase. A company record cash purchases by increasing/debiting Inventory (an asset account) and decreasing/crediting Cash (another asset account).
A purchase invoice is another type of business documents to support credit purchase of inventory. The invoice usually contains data such as the items purchased, the unit, quantity and price of each item, the total purchase price as well as other relevant information. However, the purchaser usually does not prepare a purchase invoice. The purchaser uses a copy of the sales invoice sent by the seller as a business document to support the purchase transaction when it is entered to the accounting system.
The invoice illustrated below, extracted from Weygandt et al (2015), is an example of the purchase invoice used by Sauk Stereo (the buyer) as a purchase invoice. This invoice is originally sent by PW Audio Supply, Inc. (the seller).
How to debit and credit the purchase of merchandise inventory?
Assume that the purchase records of Shania Wholesale Corp reveal that the total credit purchases during January are $7,600,000. How to debit and credit the purchase of merchandise inventory?
The summary journal entry would be as follows:
Note that the entry above is the summary journal for a month. It means that the day-to-day purchase records are done elsewhere, for example, in the purchase journal. The credit purchase of inventory is an increase in an asset account (debit to Inventory) and an increase in a liability account (credit to Accounts Payable).
Not all purchases are debited to Inventory, however. Companies record purchases of assets acquired for use, not for resale, eg equipment, as increases to a specific asset account rather than to Inventory. For example, to record the purchase of equipment used in the office, companies may debit an Equipment account.