5. Transportation In

Let's talk about purchases. Purchases is an account that you'll see if you're doing periodic inventory. So if you see the purchases account, you know that it's a periodic inventory system, and it's not a perpetual inventory system. The purchases account is also temporary.

So what that means is, if you'll think back to, I think, Chapter 4, temporary accounts all get closed. They get closed out at the end of the year. They go through net income to retained earnings to the balance sheet, right? So purchases is a temporary account for a periodic inventory system. Now, what we're gonna try to figure out here is what goes into the purchases account, and how do we end up with something we call cost of goods purchased?

This is what we're trying to get at. We're trying to get to the total cost of goods purchased so that eventually we can figure out cost of goods sold, which we'll do in another video. Before we get to cost of goods purchased, I wanna draw out another formula that we've already looked at. We looked at something called net sales, and at the top we put sales, and then we took out two things. We took out sales returns and allowances, and we took out sales discounts, and then we called that net sales.

And the reason I wanted to draw this out is because I'm trying to still prove to you that accounting builds on itself and is not super complicated. So, we have purchases minus purchase returns and allowances, minus purchase discounts, and that gives us net purchases.

So remember one or remember the other, doesn't matter. They're the exact same thing. Now, we've got net purchases. This is the net amount of merchandise that we've purchased during, you know, whatever period. In the same way that sales returns and allowances and sales discounts were contra accounts, these two are also contra accounts.

So these are contra purchase accounts, and the way you'll often see the purchases account is you'll see purchases increased by $1,000 and cash decreased by $1,000. So in this situation, you've purchased $1,000 of merchandise, and you paid cash of $1,000, and the reason that purchases is a debit account is because eventually, after you close it all out, it decreases net income. So we treat it the same as an expense account, which obviously puts returns and allowances and discounts as opposite of that. So if we got a purchase discount, then we would put it over here because it's the opposite, a contra to purchases.

And purchase discounts work just like sales discounts, so you'll see them expressed this way. And if you don't understand this, go back and watch the net sales videos, and we'll talk about what this actually means. Okay, so we've gotten to net purchases, but I told you we were looking for cost of goods purchased. So this is the net purchases formula, but there's one more step we have to take to get to the total cost of goods purchased. So the net purchases is purchases minus returns and allowances, minus discounts, gives us net purchases.

Now, if you'll recall from the FOB video, we did something like this. We drew out this timeline, and we said shipping, destination. And we said at some points, if it's FOB destination, it works like this. But if it's FOB shipping, it works like this.

Just depending on what the contract actually says. Now, if it's FOB shipping... This line should be over here, but it doesn't matter. If it's FOB shipping, then the buyer becomes responsible for it here at the shipping point, right? So anything to the right of the line is definitely the buyer, and anything to the left of the line is definitely the seller. And so we discussed FOB helps us eliminate this ambiguity here.

Now, let's look at this scenario down here. What is this one? Well, the line is at shipping, so this one is FOB shipping down at the bottom. Now, you'll notice that in here, it belongs to the buyer, and this is the point at which it's being shipped. So when it's being shipped, it belongs to the buyer. Now, in this period, there are shipping costs, and because it belongs to the buyer, those shipping costs are borne by the buyer. The buyer has to pay those shipping costs because the seller's responsibility ceased right here, right? We drew the line here and said, this side is seller, this side is buyer.

So the seller has no more responsibility once it's handed to the shipping company. And while it's in transit, it belongs to the buyer, so they have to pay all of those shipping costs. So what we do is we add transportation in, and that gives us cost of goods purchased.

And we add this specifically for the case when it's FOB shipping and we, the buyer, have to pay to get the transportation in. And you may be asking yourself, okay, transportation in, that makes sense, but why not transportation out? Well, transportation out is not a buying cost. Let's say that this is transportation out because the seller has to pay to ship it to the buyer. Well, that's not a buying cost. That's a selling cost.

So we don't include that in purchases. We include that as a selling cost. That's why you'll only see transportation in when you're talking about cost of goods purchased. So that makes up your final formula. At the top, you have your gross purchases. You take out anything you returned or any credits, any allowances you got. You take out any discounts you may have received by paying early. And that gives you your net purchases.

And be careful on a test. She may be asking for net purchases, but she may be asking for cost of goods purchased. Cost of goods purchased, you have to add in freight or transportation in. So the cost to get the stuff to your store. And then that becomes cost of goods purchased.

So pay very careful attention. Is the teacher asking for net purchases or is the teacher asking for cost of goods purchased? Because those two things are different and they differ by transportation in.