The merchandiser’s income statement; what each system records and when

◈ 7 cards

Compute gross profit and gross margin percentage, and say what a perpetual system records at purchase and at sale that a periodic system leaves to the physical count.

A new line on the income statement

Northlake Nordic Centre Inc. sells skiing. Its income statement is revenue, then a list of operating expenses, then operating income — there is nothing between the revenue line and the expenses because a groomed trail has no cost of the thing sold. Bramble Lane Outfitters Ltd., a Peterborough outdoor-gear store, buys headlamps, trail shoes and packs and sells them on. Every sale has two halves: the price the customer paid, and the cost of what walked out the door. A merchandiser's income statement puts that cost immediately under the revenue:

Net sales                          75,000
Cost of goods sold                 48,750
Gross profit                       26,250
Operating expenses                 ...

Gross profit (the same thing as gross margin) is net sales less cost of goods sold: what is left to pay the rent, the staff and the bank after the goods themselves are paid for. As a percentage of net sales it is the number a lender compares across years and against other retailers:

$Gross margin % = \frac{Gross profit}{Net sales} = \frac{26 , 250}{75 , 000} = 35 %$

Every dollar of sales left 35 cents after the goods were paid for. A falling gross margin means suppliers' prices rose faster than the store's, or the store discounted more — a question a case will ask you to read from two years of figures.

Two ways to know the cost of goods sold

The revenue half of a sale is easy: the till knows the price. The cost half needs the store to know what each item cost, and there are two systems for knowing it.

Under a perpetual system the Inventory account is kept up to date continuously. Every purchase is a debit to Inventory; every sale makes two entries — one for the revenue, and one that moves the item's cost out of Inventory into Cost of Goods Sold. At any moment the ledger says what is on the shelves and what has been sold. The physical count at year end is still taken, but it checks the ledger: the difference is shrinkage (theft, breakage, miscounts).

Under a periodic system the store does not track cost at each sale. Purchases go to a Purchases account, sales are recorded for revenue only, and at year end the count is the inventory figure. Cost of goods sold is what is left over: opening inventory plus purchases, less whatever the count says remains (L8.4). Shrinkage is invisible — it is simply inside cost of goods sold.

One headlamp, both ways

Bramble Lane buys a headlamp for 18 and sells it for 40.

Event	Perpetual	Periodic
buy it, 18 on account	Dr Inventory 18 / Cr Accounts Payable 18	Dr Purchases 18 / Cr Accounts Payable 18
pay 2 freight to get it in	Dr Inventory 2 / Cr Cash 2	Dr Freight-In 2 / Cr Cash 2
sell it, 40 cash	Dr Cash 40 / Cr Sales Revenue 40 and Dr Cost of Goods Sold 20 / Cr Inventory 20	Dr Cash 40 / Cr Sales Revenue 40 — nothing else
the year-end count	compare the count to the ledger; the gap is shrinkage	the count becomes ending inventory; COGS is computed

The perpetual store knows on the day of sale that it made 20 on that headlamp. The periodic store learns its total gross profit once a year. Most stores with a barcode scanner are perpetual; a small shop with a paper ledger may still be periodic, and ASPE accepts either — the standard governs what inventory costs, not how often the ledger is updated.

Perpetual touches Inventory at every event and records cost of goods sold at each sale; periodic collects purchases in their own accounts and learns cost of goods sold from the count.