Mastery Problem: Accounting for Retail Businesses
Merchandising Transactions
You are working as a summer intern for AAA Auditing, Inc. You have been asked to help resolve discrepancies noted in the audit for Dolfin Corporation, a retailer of specialty aquarium supplies.
As a retail company, Dolfin Corporation uses the perpetual inventory system. To prepare for this assignment, you have been asked to review your knowledge of sales and purchase transactions by completing the following table.
Consider the effect of each transaction on the three accounts listed, and identify which accounts are debited or credited. If not affected by the transaction, select “No Effect”.
| Inventory | Estimated Returns Inventory | Cost of Goods Sold | |||||
| Purchase of merchandise for resale | Debit | No Effect | No Effect | ||||
| Cash sale of merchandise | Credit | No Effect | Debit | ||||
| Customer returns | Debit | Credit | No Effect | ||||
| Yearly estimate for customer returns | No Effect | Debit | Credit | ||||
| Freight paid for merchandise purchased FOB shipping point | Debit | No Effect | No Effect | ||||
| Return of merchandise purchased for resale | Credit | No Effect | No Effect | ||||
| Freight paid for sales with FOB destination | No Effect | No Effect | No Effect | ||||
| Sale on account | Credit | No Effect | Debit | ||||
| Customer payment on account | No Effect | No Effect | No Effect | ||||
| Payment of service fee for processing credit card sales | No Effect | No Effect | No Effect |
Feedback
For each transaction, think about the journal entry that would be used to record it.
Auditing Observations
After going through the accounting records of Dolfin Corporation in detail, the auditor made a list of observations. You have been asked to review the effect of these observations.
For each observation, identify which items on the income statement are overstated or understated. If not affected by the observation, select the “No Effect”.
| Observations | Sales | Cost of Goods Sold | Gross Profit | Operating Expenses |
Operating Income |
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| While the company accountant was on vacation, the cost of each sale was not recorded for sales transactions. | |||||||||||
| All freight costs were charged to Delivery Expense regardless of the terms of sale. | |||||||||||
| Customer returns and allowances were sometimes debited to Estimated Returns Inventory and credited to Sales. | |||||||||||
| Office supplies expense was included in administrative expenses. | |||||||||||
| Sales tax collected on each sale was credited to Cost of Goods Sold. | |||||||||||
| Inventory shrinkage was credited to Miscellaneous Selling Expense. | |||||||||||
| Credit card processing fees were debited to Cost of Goods Sold. |
Feedback
Consider the effect of each error on the income statement. Compare what should have been recorded to what was actually done.
Income Statement
The accountant for Dolfin Corporation prepared the following income statement. The auditor has asked you to use this statement to provide additional information to Dolfin Corporation on the Final Questions.
| Dolfin Corporation Income Statement For the Year Ended December 31, 20Y8 |
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| Sales | $318,840 | ||
| Expenses: | |||
| Cost of goods sold | $216,811 | ||
| Selling expenses | 41,449 | ||
| Administrative expenses | 35,072 | ||
| Interest expense | 275 | ||
| Total expenses | (293,607) | ||
| Net income | $25,233 | ||
Final Questions
The auditor has asked you to prepare additional information about Dolfin Corporation’s results for last year. Use the data shown on the income statement in your computations.
1. Compute the operating expenses for Dolfin Corporation.
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2. Compute the gross profit for Dolfin Corporation.
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3. Compute the operating income for Dolfin Corporation.
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Feedback
