Purchases, Cost of sales,
Control accounts

by Anonymous

Balances at 31 January 2009:

Debtors control account.............................$32,400
Creditors control account...........................$25,200
Inventory...................................................$30,000

Balances at 28 February 2009:
Debtors control account.............................$24,000
Creditors control account...........................$29,160
Inventory...................................................$36,000

Extract from cash payments journal at 28 February 2009:
Payments to creditors.................................$41,040

Additional Information:
a) Gross profit mark-up is 20% on cost
b) Inventory is kept on the perpetual system
c) All purchases and 80% of sales are on credit

Required:
a) Calculate purchases.
b) If purchases during February were $39,000 what is the Cost of Sales for February?


Thanks for this great question.

a) First of all, remember that "purchases" sometimes consists of both cash and credit purchases. In this example, however, it says, "all purchases and 80% of sales are on credit." This is a bit confusing, but it means all purchases are on credit.

How do we get all purchases? If you reconstructed the creditors control T-account it would be the "balancing figure" (the final missing figure that balances both sides of the T-account). What I mean is, use the opening and closing balances of your creditors control, as well as the cash paid to them ("Payments to creditors") to get the purchases during the month.

Here's how I like to look at it:
- We started out owing the creditors control $25,200.
- We purchased a certain amount from them during the month (missing or balancing figure). This increases how much we would owe them. More purchases on credit means more owing.
- We also paid them $41,040 during February for these credit purchases. This reduces how much we owe.

- At the end of the month (after all this) we owed them $29,160.

If you are not familiar with constructing a T-account to get a missing or balancing figure, you can also put the above things in an equation:

Closing balance creditors control = Opening balance creditors control + Credit Purchases - Payments to Creditors

$29,160 = $25,200 + Credit Purchases - $41,040

If we switch this around and make the Credit Purchases the subject:
Credit Purchases = $29,160 - $25,200 + $41,400
= $45,360

Since credit purchases make up 100% of the purchases, the purchases figure is also $45,360.


b) Any time a question asks for the Cost of Sales or Cost of Goods Sold (same thing) there is a very, very good chance you will need to use the Cost of Sales formula. This formula is explained in the section on Inventory. The formula is:

Cost of sales = Opening inventory + Purchases - Closing Inventory
= $30,000 + $39,000 - $36,000
= $33,000


Isn't it interesting how they gave all this extra information in this question? Check the "additional information" section above. We didn't even need any of the information in a) and b) at all to get the answers!

TIP: It often helps to put things in a simple equation when you are trying to answer a question - try use equations wherever possible, especially when you're stuck!