Items that Make Up Merchandise Inventory

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  • 0:01 Merchandise Inventory
  • 0:42 Goods in Transit
  • 2:58 Goods in Consignment
  • 4:42 Goods Damaged or Obsolete
  • 5:56 Lesson Summary
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Lesson Transcript
Instructor: Rebekiah Hill

Rebekiah has taught college accounting and has a master's in both management and business.

In order to operate, merchandising companies must carry inventory. What exactly makes up merchandise inventory? In this lesson, you will not only learn the answer to that question, but also several other important factors that relate to merchandise inventory.

Merchandise Inventory

When you go into a store and see all the items that store has available for sale, you know each of those items are part of the store's merchandise inventory. What most people don't know is that there is more to merchandise inventory than meets the eye. Before we discuss what else is part of merchandise inventory, let's define the term itself.

The term merchandise inventory refers to items that are acquired by a distributor for the purpose of resale to a third party. Not only are the items that you see on display in a store considered merchandise inventory, but there are also three more things that are considered to be part of merchandise inventory. They are goods in transit, goods in consignment, and goods damaged or obsolete.

Goods in Transit

We will start our discussion on the other components of merchandise inventory with goods in transit. Technically, goods in transit are items that have been ordered by a business but not yet received. Does that mean that everything a business has ordered at the time that merchandise inventory is recorded in the accounting records should be counted as well? Most definitely not. For goods in transit, the question of ownership comes into play.

Ownership of items that are in limbo between being shipped and received lies in the terms in which the items were shipped. Items that are shipped FOB shipping point are items whose ownership is transferred from the seller to the buyer as soon as items ship. FOB destination are items whose ownership transfers from the seller to the buyer when the items are received by the buyer. In order for goods in transit to be recorded in the accounting records of a business before receipt, they must have been shipped FOB shipping point. Let's look at an example of this concept.

Avari owns a furniture store. She orders 10 new armchairs for the store with the terms FOB shipping point from Harts Custom Furniture. On the same day, she orders 10 sofas from Gartman's Wholesale Furnishings. The sofas are ordered with shipping terms FOB destination. It's the end of the accounting period, and Avari has to record her merchandise inventory in her accounting records. Neither the armchairs nor the sofas have been received yet.

Which of these items need to be counted as merchandise inventory for the current accounting period? The answer here is the 10 armchairs. Why? Because ownership of the chairs transferred to Avari when the items shipped based on the shipping method that was agreed upon between Avari and Hart's Custom Furniture.

So, why didn't the sofas count as merchandise inventory on Avari's accounting records? Because Avari has different shipping terms with Gartman's Wholesale Furnishings. The order she placed with Gartman's has the shipping terms FOB destination, meaning that ownership of the sofas remained with Gartman's until the sofas are received. When Avari receives those sofas, at that time ownership will then transfer to Avari.

Goods in Consignment

Goods in consignment are another category of items that fits into merchandise inventory. These types of goods are items that are delivered from one business to another business for the purpose of allowing the second business to sell the items on a commission basis. In this type of relationship, the business that owns the goods is called the consignor, and the business that sells the goods for commission is called the consignee. Even though the goods given to a consignee by a consignor are physically located in the consignee's business, the ownership of those items remains with the consignor. Is all this consignor/consignee business confusing to you? Well, don't worry. This next example will bring it all together.

Avari has decided that she would like to expand the items that she sells in her furniture store. Her friend Tim makes coffee tables and end tables out of reclaimed wood. She offers to let Tim put some of his pieces in her store on a consignment basis. She doesn't purchase the items, but she does sell the items. She makes 10 percent commission on every item that she sells for Tim.

Who is the consignor here? What about the consignee? Who has ownership of the consigned items? The consignor here is Tim since he is the one who has made the items. The consignee is Avari since the items are at her store, yet she didn't purchase them. Tim retains ownership of the items he places with Avari on a consignment basis. When it comes time to value merchandise inventory, Tim counts any items that are at Avari's furniture store on his accounting records, and Avari does not.

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