When a sale is made so that inventory is surrendered, the seller reports an expense that has previously been identified as “cost of goods sold” or “cost of sales.” For example, Best Buy reported “cost of goods sold,” for the year ended February 28, 2009, as $34.017 billion. When should cost of goods sold be determined? To illustrate, assume that Rider Inc. begins the current year holding three Model XY-7 bicycles costing $260 each—$780 in total. During the period, another five units of this same model are acquired, again for $260 apiece or $1,300 in total. [1]Eventually, a customer buys seven of these bicycles for her family and friends paying cash of $440 each or $3,080 in total. No further sales are made of this model. At the end of the period, a single bicycle remains (3 + 5 – 7). One is still in stock while seven have been sold. What is the proper method of recording the company’s cost of goods sold? Answer: Perpetual inventory system. The acquisition and subsequent sale of inventory when a perpetual system is in use was demonstrated briefly in an earlier chapter. The accounting records maintain current balances so that officials are cognizant of (a) the amount of merchandise being held and (b) the cost of goods sold for the year to date. These figures are readily available in general ledger T-accounts. In addition, separate subsidiary ledger balances are usually established for the individual items in stock, showing the quantity on hand and its cost. When each sale is made, the applicable cost is reclassified from the inventory account on the balance sheet to cost of goods sold on the income statement. Simultaneously, the corresponding balance in the subsidiary ledger is lowered.
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In this example, bicycles had been acquired by Inc. and seven of them, costing $260 each (a total of $1,820), are sold to a customer for $440 apiece or $3,080. When a perpetual system is in use, two journal entries are prepared at the time of this transaction: one for the sale and a second to shift the cost of the inventory from asset to expense.
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