Chapter 8:

Managing a Retailer's
Finances
Kyla Aguinaldo
Wanda Ang
Dave Celdric Chiu
Regine Mae Lao
Erin Gan
Sophia Merced
Michael Ong

Learning Objectives
Describe the importance of a
merchandise budget and know how to
prepare a six-month merchandise plan.
Explain the differences among and the
uses of these three accounting
statement: Income Statement, Balance
Sheet, and Statement of Cash Flow.
Explain how the retailer is able to value
inventory.

What is Merchandising?

It is only one of these activities

and is concerned with the planning
and control involved in the buying
and selling of goods and services to
help the retailer realize its
objectives.

This chapter is divided into three

sections:
Merchandise Budget
Retail Accounting Statements
Inventory Valuation

Merchandise Budget

It is a plan of projected sales for an

upcoming season, when and how
much merchandise is to be
purchased, and what markups and
reductions are likely to occur.
It forces the retailer to develop a
formal outline of all merchandising
activities for the upcoming selling
season.

5 major merchandising
questions:
1. What are the anticipated sales for
the department, division, or store?
2. How much stock on hand is needed
to achieve this sales plan, given the
level of inventory turnover expected?
3. What reductions, if any, from the
original retail price are likely to be
needed in order to dispose of all
merchandise brought into the store?

4. What additional purchases must

be made during the season?
5. What gross margin is the
department, division, or store
likely contribute to the overall
profitability of the company, given
this merchandising plan?

A retailer must employ the

following 4 rules:
1. A merchandise budget should
always be prepared in advance of
the selling season
2. The language must be easy to
understand.

3. The merchandise budget must be

planned for a relatively short
period of time.
4. The budget should be flexible
enough to permit changes.

Determining Planned Sales

Estimate planned sales for the

entire season.

Weather can produce unexpected

consequences for retailers.

Forecasting is most important for

service retailers because their
services are perishable.

Determining Planned BOM

and EOM Inventories

A common method of estimating

the amount of stock to be carried is
the Stock-to-Sales Ratio.
Stock-to-Sales Ratio this ratio

depicts the amount of stock to be on

hand at the beginning of each month
to support the forecasted sales for the
month.

Determining Planned Retail

Reductions

When preparing the merchandise

budget, the buyer should make
allowances for reductions in the
dollar level of inventory that results
for non-sale events.
These planned retail reductions fall
into three types: markdowns,
employee discounts, and stock
shortages.

A small number of retailers do not

include planned reductions in their
merchandise budget.

Reductions are one of the major

items in the merchandise budget
subject to constant change.

Determining Planned
Purchases at Retail and Cost

The retailer will need inventory for:

planned sales, planned retail
reductions, and planned EOM
Inventory.

The retail price always represents a

combination of cost plus markup.

Determining the Buyers

Planned Gross Margin

The last step in developing the

merchandise budget is determining
the buyers planned gross margin
for the period.

Retail Accounting Statements

Large retailers generally require

more detailed information, usually
based on merchandise lines or
departments.
Smaller retailers may be able to
make firsthand observations of
sales and inventory levels and
make decisions before financial
data are variable.

Properly prepared financial records

provide measurements of
profitability and retail performance.
Financial records not only indicate
if a retailer has achieved a good
results but also demonstrate what
growth potential and problems
areas lay head.

Income Statement

It is also referred to as profit and

loss statement.

It provides a summary of the sales

and expenses for a given time
period, usually monthly, quarterly,
seasonally, or annually.

Gross Sales

It is the retailers total sales,

including sales for cash or for
credit.

RETURNS AND ALLOWANCES

are reductions from gross sales.

NET SALES represents the amount

of merchandise the retailer actually
sold during the given time period.

Net Sales = Gross Sales Returns and Allowances

Cost of Goods Sold

It is the cost of merchandise

that has been sold during the
period.

Gross Margin

It is the difference between net

sales and cost of goods sold or the
amount available to cover
operating expenses and produce a
profit.

Operating Expense

It is the expenses that a retailer

incurs while running the business
other than the cost of the
merchandise sold.

Operating Profit

It is the difference between

gross margin and operating
expense.

Other Income or Expenses

It includes income or expense

items that the firm incurs outside
the course of its normal retail
operations.

Net Profit

It is the operating profit plus or

minus other income or expenses.

It is the figure on which the

retailer pays taxes and thus is
usually referred to as net profit
before taxes.

Store managers often look at gross

margin from the bottom up and
use this formula:
Gross Margin = Operating

Expense + Profit

Top Line (Sales), Gross (Gross

Margin), Line Above the Bottom
(Other Income), and Bottom Line
(Profit)

Balance Sheet

It shows the financial condition of a

retailers business at a particular
point in time, as opposed to the
income statement, which reports
on the activities over a period of
time.
It identifies and quantifies all the
firms assets and liabilities.

Asset

It is anything of value that is

owned by the retail firm.

Assets are broken down into two

categories: Current and Noncurrent
Assets.

Current Asset

It includes cash and all other items

that the retailer can easily convert
into cash within relatively short
period of time. It includes accounts
receivable, notes receivable,
prepaid expenses, and inventory.

Accounts Receivable and Notes

Receivable are amounts that
customers owe the retailer for
goods and services.
Prepaid Expenses are items such
as trash collection or insurance for
which the retailer has already paid
but the service has not been
completed.

Retail Inventories make up

merchandise that the retailer has
in the store or in storage and is
available for sale.

Noncurrent Assets

These are the assets that cannot

be converted into cash in a short
period of time in the normal course
of business.
These items are carried on the
books at cost less accumulated
depreciation.
Depreciation is necessary
because most noncurrent assets
have limited useful life.

Goodwill is an intangible asset,

usually based on customer loyalty,
that reflects the portion of the
book value of a business entity not
directly attributable to its assets
and liabilities.

Total Assets = Current Assets +

Noncurrent Assets + Goodwill

Liability

It is any legitimate financial claim

against the retailers assets.
Liabilities are classified as either
current or long-term.

Current Liabilities

These are short-term debts that

are payable within a year.

Accounts Payable are amounts

owed to vendors for goods and
services.

Long-term Liabilities

These includes notes payable and

mortgages not due within the year.

Total Liabilities = Current

Liabilities + Long-term Liabilities

Net Worth
(Owners Equity)

It is the difference between the

firms total assets and total
liabilities and represents the
owners equity in the business.

Statement of Cash Flow

It lists in detail the source and type

of all revenue (cash inflow) and the
use and type of all expenditures
(cash outflow) for a given time
period.
The purpose is to enable the
retailer to project the cash needs
of the firm.
A statement of cash flow is not the
same as an income statement.

Inventory Valuation

It allows a company to provide a

monetary value for items that
make up their inventory.

Inventories are usually the

largest current asset of a business,
and proper measurement of them
is necessary to assure accurate
financial statement.

A retailer must make two major

decisions with regard to valuing
inventory: (1) which accounting
inventory system to implement
and (2) what inventory-pricing
method to use.

Accounting Inventory System

(1) Cost

Method it provides a book

valuation of inventory based solely
on the retailers cost, including
freight.
(2) Retail Method it overcomes the
disadvantages of the cost method
by keeping detailed records of
inventory based on the retail value
of the merchandise.

Cost Method

It has several limitations:

It is difficult to do daily inventories (or

even monthly inventories).

It is difficult to cost out each sale.
It is difficult to allocate freight charges
to each items cost of good sold.

Retail Method
Three (3) basic steps in computing
an ending inventory value using
the retail method:
(1) Calculation of the Cost
Complement.
(2) Calculation of Reductions from
Retail Value.
(3) Conversion of the Adjusted Retail
Book Inventory to Cost.

Step 1: Calculation of the

Cost Complement

Inventories, both beginning and

ending, and purchases are
recorded at both cost and retail
levels when using the retail
method.

Step 2: Calculation of
Reductions from Retail Value

During the day-to-day business

activities, the retailer must take
reductions from inventory.

Step 3: Conversion of the Adjusted

Retail Book Inventory to Cost

The final step to be performed in

using the retail method is to
convert to cost the adjusted retail
book inventory figure in order to
determine the closing inventory at
cost.

Inventory-Pricing Systems

Two methods of pricing inventory

are FIFO and LIFO.
FIFO (First In, First Out) Method

this method assumes that the oldest

merchandise is sold before the more
recently purchased merchandise.
LIFO (Last In, First Out) Method
this method is designed to cushion the
impact of inflationary pressures by
matching current costs against current
revenues.