Accounting Question: Inventory Balance

Question

The transactions listed below are typical of those involving Amalgamated Textiles and American Fashions. Amalgamated is a wholesale merchandiser and American Fashions is a retail merchandiser. Assume all sales of merchandise from Amalgamated to American Fashions are made with terms n/60, and the two companies use perpetual inventory systems. Assume the following transactions between the two companies occurred in the order listed during the year ended December 31.

1. Amalgamated sold merchandise to American Fashions at a selling price of $230,000. The merchandise had cost Amalgamated $175,000.
2. Two days later, American Fashions returned goods that had been sold to the company at a price of $20,000 and complained to Amalgamated that some of the remaining merchandise differed from what American Fashions had ordered. Amalgamated agreed to give an allowance of $5,000 to American Fashions. The goods returned by American Fashions had cost Amalgamated $15,270.

Indicate the amount and direction of the effect (+ for increase, − for decrease, and NE for no effect) of each transaction on the Inventory balance of American Fashions. (Enter all amounts as positive values.)

Answer 1

dr. accounts receivable (+A)..........230,000

cr. sales revenue (+R/+SHE).......................230,000

dr. cost of goods sold (+E/-SHE)..175,000

cr. inventory (-A)..........................................175,000

The first is the sales entry. Since American Fashions is paying on account, rather than recording for cash, we record for accounts receivable. Accounts receivable is a current asset and is used to temporarily record the balance of money that is due to Amalgamated for the merchandise sold but not yet paid for by American Fashions. Therefore, assets increase. Sales revenue is as the credit because, as a revenue, it increases shareholders' equity (remember that debits decrease SHE and credits increase SHE).

The second is the costs entry. Since Amalgamated is selling merchandise, they are using up their inventory. COGS is debited by the amount the merchandise cost the to purchase for their inventory. COGS is an expense account, therefore decreases shareholders' equity. The inventory decreases, therefore it is debited. Inventory is an asset, therefore assets decrease.

dr. sales returns & allowances (+XR/-SHE)........25,000

cr. accounts receivable (-A)...........................................25,000

(dr. sales returns.................................................20,000)

(cr. accounts receivable..................................................20,000)

(dr. sales allowances............................................5,000)

(cr. accounts receivable....................................................5,000)

dr. inventory (+A)..................................................15,270

cr. cost of goods sold (-E/+SHE)....................................15,270

Amalgamated refunds the amount that the customer pays and provides an allowance of $5,000. Merge the two separate journal entries together into the account, sales returns and allowances. Because revenues are subtracted, sales returns and allowances is a contra-revenue account that reports two things: the sold merchandise had been returned and an allowance was given due to defective merchandise. It is debited because it decreases shareholders' equity. Accounts receivable is credited to reverse the previous journal entry and the balance due to Amalgamated.

The second journal entry reverses the previous journal entry which recorded the costs of selling the merchandise. The amount reversed is the amount of goods returned times how much it cost Amalgamated to buy the good.

Assets..............=...............Liabilities...............+..............Shareholders' Equity

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+ 230,000........................................................................................... +230,000

- 175,000............................................................................................ - 175,000

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- 20,000............................................................................................... - 20,000

- 5,000................................................................................................... - 5,000

+15,270............................................................................................... +15,270

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