Merchandising: Closing accounts; Adjusting accounts; Inventory Shrinkage – Accounting video

This is Part 4 in our Merchandising
Operations series and we’ll be discussing Adjusting and Closing entries
for Merchandising Companies. So the first thing we’ll look at is adjusting the
accounts. Specifically we’re going to talk about adjusting inventory. So
there’s a couple of reasons we may need to adjust inventory. The first one is due
to shrinkage. Now recall is talking about periodic and perpetual inventory. So no
matter which method you use, even if you’re using a perpetual method, you’re
still going to want to take a periodic inventory count. And when you do that you
may find that your physical count does not equal the count that’s currently on
your books, and this can be due to shrinkage. Things can walk out the store
due to your employees stealing from you or customers stealing from you. Also,
there could be error, or there could be damaged goods. So there are several
things that can cause shrinkage. We have to adjust our inventory to account
for this because we no longer have that inventory on hand, however, we did pay for
that inventory. So if it disappears, or walks out the door, we need to expense it.
So if we count our inventory, and it’s different from what’s on the books, we
will need to increase our cost of goods sold and decrease our inventory by the
difference. Let’s look at closing. Now this should be
kind of a review for you, but in addition to what we already know, we’re going to
be including those contra- revenue accounts that we talked about earlier in
an earlier part to the series. So I always close my entries, or put my
closing entries in the same order every time that way I don’t get confused. So I
always close my revenues first. And I always use an income summary to close my
revenues. So you close your revenues to the income summary. Remember that
revenues carry a credit balance. To get rid of the credit balance you would
debit your revenue account and you would credit the income summary. That would be
the closing entry for revenues. Expenses, we’ve talked about before, but now we’re
adding those contra- revenues. Remember expenses carry debit balances also our
contra- revenue accounts carry debit balances because they’re contra-
revenues. So we want to close all those accounts with debit balances. Those will
also close to income summary – so to close a debit balance, we would credit
expenses, and our contra- revenues and when we we would debit the income
summary. Once we’ve closed our revenues and
expenses we do not want to keep an income summary. You want to close that
account out. Remember the income summary is a temporary account, and it’s only
used during the closing process. So once we’ve closed revenue expenses to the
income summary, we will get our balance in the income summary. And remember if we
have a credit balance in the income summary, that’s net income because
revenues exceed expenses and the contra- revenues. If we have a debit balance in
our income summary, that would indicate we have a net loss. So once we close the
income summary, we will close our dividends to retained earnings. Remember
dividends is not an expense account, it just reduces your retained earnings. So there’s an illustration of the income
summary T-Account. So notice we closed our revenues , closed
our expenses, closed our contra-revenues to the income summary. And remember if
you have a credit balance in the income summary, its net income. If you have a
debit balance, it’s net loss. You will not have a debit and a credit balance don’t
get confused by the T-Account that I have here. You will have one or the other
balances here. You’ll have a net income balance, a credit, or a net loss balance,
a debit. Let’s look at an example. Candy Creations’ accounts at June 30th
included these adjustments. They had inventory of 5600, cost of goods sold
$41,200, sales revenue of $86, 900, sales discounts of $900, and sales returns and allowances of
$1400. The physical count of inventory on hand added up to $5,400. This is the only adjustment needed. So what we have here
is on our books we show our inventory to be 5600, but when we did a
periodic count we only found 5400. So we have shrinkage there, we
need we need to take care of that. So we have to come up with an entry to show
this adjustment. Now remember we’ve paid for that inventory, so we need to expense.
It it’s not there anymore, we can’t sell it. So we need to expense it. So to
journalize the adjustment, we would increase our cost of goods sold with a
debit for the$200 and decrease our inventory for the $200. Now journalize the closing entries for
the appropriate accounts. So again the first accounts we closed are the sales
revenue accounts. Sales revenue was $86,900. Sales
revenue carries a credit balance, so we will debit sales revenue to get rid of
it, and we close it to the income summary with a credit of $86,900. Next we want to close our expenses, and our contra-revenues. We
had one expense, it was cost of goods sold, and we had two contra- revenues. We
had sales discounts and sales returns and allowances. So those all carry debit
balances. To get rid of them we would credit those accounts. We’re closing them
to the income summary. So we have to debit the income summary for the total.
The total of cost of goods sold and our to contra- revenues was $43,700. Now we need to close our income summary to
retain earnings. Well we can look at our numbers here, and I can see that even
without a T-Account, that my income summary has a credit balance of $86,900 and a debit balance of $43,700. So I know that I’m gonna have a net income because my credits outweigh
my debits. So it’s going to carry a credit balance. So to get rid of that
credit balance in the income summary, I’m going to need to debit the income
summary for that balance, which as we can see here, the income summary has a credit
balance of $43,200. To get rid of that, I
need to debit the income summary for $43,200, and I will credit retained earnings for $43,200. Now I will point out that you need to
take special note to cost of goods sold here. They tell me in the problem that
cost of goods sold is $41,200, but here I’m closing
cost of goods sold of $41,400. Remember
the first entry we made was a shrinkage adjustment. We had to expense $200 of
inventory that had disappeared, so that brought my balance of cost of goods sold
to $41,400. Now let’s compute Candy
Creations gross profit. So recall your gross profit income statement. We start
with our sales revenue of $86,900, then we
need to subtract our contra- revenues to get our net sales. So here we’ll have net
sales of $84,600, then we subtract out the
balance in our cost of goods sold account, which was $41,400. Don’t forget about the shrinkage adjustment, and that will
give us gross profit of $43,200.

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