- BUS 3061 Unit 4 Assignment 2 Accounting Knowledge Transfer.
Q1: Proficient – Describe the significant differences between income statements for a service company and a merchandise company:
Service Companies – “an income statement for a service company with those for a merchandising company. To determine profitability or net gain, a service company deducts total expenses incurred from revenues earned” (Hermanson, Edwards, J.D., and Maher, 1998, Page 304).
Merchandising Companies – “is a more complex business and, therefore, has a more complex income. Merchandising companies must deduct from revenues the cost of the goods they sell to customers to arrive at gross margin. Then, they deduct other expenses. The income statement of a merchandising company has three main divisions: (1) sales revenues, which result from the sale of goods by the company; (2) cost of goods sold, which is an expense that indicates how much the company paid for the goods sold; and (3) expenses, which are the company’s other expenses in running the business” (Hermanson, H., Edwards, J.D., and Maher, 1998, Page 304). Explore Bus 3061 Unit 4 Assignment 1 Accounting Theory for more information.
Distinguished – In detail, describe how the gross margin for a merchandising company is determined:
“Merchandisers usually highlight the amount by which sales revenues exceed the cost of goods sold in the top part of the income statement. The gross margin or gross profit is the excess of net sales over the cost of goods sold. To express gross margin as a percentage rate, we divide gross margin by net sales” (Hermanson, H., Edwards, J.D., and Maher, 1998, Page 326).
Q2: Proficient – As a part of the calculation for the cost of goods sold, it is necessary to determine the value of goods on hand, termed merchandise inventory. Accountants use two basic methods for determining the amount of merchandise inventory. Identify the two methods and describe the circumstances (including examples of users of each method) under which each technique would be used:
Periodic Inventory: The physical count usually takes place immediately before preparing financial statements.
Perpetual Inventory: Companies use perpetual inventory procedures in a variety of businesses. Historically, companies that sold merchandise with a high individual unit value, such as automobiles, furniture, and appliances, used a perpetual inventory procedure.
(Hermanson, H., Edwards, J.D., and Maher, 1998, Page 314).
Distinguished – Describe the computation necessary to arrive at the cost of goods sold figure on a merchandising company’s income statement:
To summarize the more meaningful relationships in the income statement of a merchandising firm in equation form:
Net sales = Gross sales – (Sales discounts + Sales returns and allowances).
Net purchases = Purchases – (Purchase discounts + Purchase returns and allowances).
Net cost of purchases = Net purchases + Transportation-
Cost of goods sold = Beginning inventory + Net cost of purchases – Ending
Gross margin = Net sales – Cost of goods
Income from operations = Gross margin – Operating (selling and administrative)
Total compensation = Income from operations + Nonoperating revenues – Nonoperating
expenses.
(Hermanson, Edwards, J.D., and Maher, 1998, Page 327).
Q3: Proficient – Contrast an unclassified income statement with the components of a classified income statement:
Unclassified Income statement – “Shows only major categories for revenues and expenses. It’s also called the single-step income statement” (Hermanson, Edwards, J.D., and Maher, 1998, Page 337).
Classified Income statement – “Divides revenues and expenses into operating and nonoperating items. The statement also separates operating expenses into selling and administrative expenses. Also called the numerous-step income statement,”
(Hermanson, H., Edwards, J.D., and Maher, 1998, Page 339).
BUS 3061 Unit 4 Assignment 2 Accounting Knowledge Transfer
Explain why a company would present its income statement data in a classified format. Identify and describe the major sections of a classified income statement:
Classified income statements have four major sections
Operating Revenues
Cost of goods sold
Operating Expenses
Non-operating Revenues and Expenses (Other Revenues and Other Expenses).
The classified income statement shows important relationships that help analyze a company’s performance. For example, by deducting the costs of goods sold from operating revenues, you can determine by what amount sales revenues exceed the cost of items being sold.
(Hermanson, H., Edwards, J.D., and Maher, 1998, Page 324).
Distinguished – In each of the following equations, supply the missing term(s):
Net sales = Gross sales – Sales discounts + Sales returns and allowances).
Cost of goods sold = Beginning inventory + Net cost of purchases – Ending inventory.
Gross margin = Net sales – Cost of goods
Income from operations = Gross margin – Operating
Overall gain = Income from operations + nonoperating revenues – nonoperating
(Hermanson, H., Edwards, J.D., and Maher, 1998, Page 327).
Q4: Proficient:
What is gross margin?
“Gross margin method is a procedure for estimating inventory cost in which estimated cost of goods sold (determined using an estimated gross margin) is deducted from the cost of goods available for sale to determine estimated ending inventory. The estimated gross margin is calculated using gross margin rates (about net sales) of prior periods” (Hermanson, H., Edwards, J.D., and Maher, 1998, Page 403).
How is it calculated?
Gross margin method the steps in calculating ending inventory under the gross margin method are:
Estimate gross margin (based on net sales) using the same gross margin rate experienced
in prior accounting periods.
Determine the estimated cost of goods sold by deducting the estimated gross margin from the net
Determine estimated ending inventory by deducting the estimated cost of goods sold from
cost of goods available for sale.
Thus, the gross margin method estimates ending inventory by deducting the estimated cost of goods sold from the price of goods available for sale.
(Hermanson, H., Edwards, J.D., and Maher, 1998, Page 389).
Why might management be interested in using the tool for analyzing accounting information?
Since each transaction affecting a business entity must be recorded in the accounting records, analyzing a transaction before recording it is an integral part of financial accounting. An error in transaction analysis results in incorrect financial statements” (Hermanson, H., Edwards, J.D., and Maher, 1998, Page 41).
Distinguished:
Using a bit of research, which industry presents a notoriously low gross margin
percentage, and conversely, name an industry that traditionally experiences a high gross margin percentage:
Chipotle Mexican Grill: Although this was once my favorite restaurant, in 2015/2016, there were news reports of a 30 percent sales decline due to an outbreak of “E. coli.” This was once a thriving fast-food restaurant and even today, I still go there to eat, and so do many more. News reports have also said Chipotle has closed some restaurants, and shares have dropped. Hopefully, this restaurant will return and regain its rightful place in the food industry. http://www.cnbc.com/2016/04/27/shares-of-chipotle-slide-on-loss-sharp-sales-decline.html
REFERENCE:
Edwards, J. D., Hermanson, R.H., Maher, H.W. (2011), Accounting Principles: A Business Perspective, Financial Accounting (Chapters 1-8), www.textbookequity.org