Accounting for Consignment Transactions and Events (Include Treatment of Normal and Abnormal Loss, Cost Price and Invoice Price)

Consignment Transactions involve the sending of goods by a consignor to a consignee for sale, where the consignor retains ownership of the goods until they are sold. The consignee acts as an agent, selling the goods on behalf of the consignor and earning a commission for their services. The unique nature of consignment accounting requires specific treatment of unsold goods, losses, and differences in valuation under cost price and invoice price methods.

Consignment Transactions and Events:

When goods are sent on consignment, several transactions take place, and each requires specific accounting treatment:

Initial Consignment of Goods

When the goods are sent to the consignee, the consignor records the transfer but does not recognize revenue since ownership remains with the consignor.

• The accounting entry at the consignor’s end is:
  • Debit: Consignment Account
  • Credit: Goods Sent on Consignment (for the cost or invoice price, depending on the method used)

Recording Expenses

Expenses such as freight, insurance, and packaging incurred by the consignor in sending the goods are added to the consignment account. Similarly, expenses incurred by the consignee (such as warehousing or selling costs) are also debited to the consignment account when reimbursed by the consignor.

• • Debit: Consignment Account (for expenses incurred)
  • Credit: Bank Account or Cash Account (for payments made)

Recording Sales

When the consignee sells the goods, the sale is recognized, and the consignee sends the proceeds, less commission, to the consignor.

• • At the consignee’s end:
    • Debit: Cash/Bank
    • Credit: Consignor’s Account
  • At the consignor’s end:
    • Debit: Cash/Bank
    • Credit: Consignment Account

Commission for the Consignee

The consignee earns a commission for their services, which is recorded as an expense in the consignor’s books.

• • Debit: Consignment Account (for the commission amount)
  • Credit: Consignee’s Account

Treatment of Losses

Consignment transactions may also involve losses during transit or storage. These losses are classified as either normal or abnormal losses, and the accounting treatment differs based on the type of loss.

Normal Loss

Normal loss refers to losses that are expected and unavoidable, such as evaporation, leakage, or breakage. This loss is a natural part of the business process.

Normal loss is absorbed into the cost of the remaining consignment stock. For example, if 100 units are sent on consignment and a normal loss of 10 units occurs, the remaining 90 units will bear the total cost of the consignment.

Calculation:

1. Determine the cost of total goods sent.
2. Spread the total cost over the remaining stock after accounting for the normal loss.

Journal Entry: No specific entry is made for normal loss; the cost of the goods is simply absorbed by the remaining stock.

Example:

If the cost of 100 units is $1,000 and 10 units are lost as normal loss, the cost per unit for the remaining 90 units will be higher. The new cost per unit is:

Cost per unit = 1,000 / 90 = 11.11

Abnormal Loss

Abnormal loss is an unexpected and unusual loss, such as a theft, accident, or fire. It is recorded separately because it is not a regular part of the business process and must be reported in the accounts as a loss.

The consignor records an abnormal loss at the cost price or invoice price of the goods, and any insurance claims (if applicable) are deducted from the loss.

Journal Entry:

• Debit: Abnormal Loss Account (for the cost of goods lost)
• Credit: Consignment Account

If insurance compensation is received:

• Debit: Bank (for the compensation amount)
• Credit: Abnormal Loss Account

Valuation of Consignment Stock:

At the end of an accounting period, any unsold consignment stock must be valued for the purpose of financial reporting. The consignment stock can be valued under two methods: cost price and invoice price.

Cost Price Method

Under the cost price method, the unsold stock is valued based on the actual cost incurred by the consignor to acquire and send the goods. This includes expenses such as freight, insurance, and packaging incurred during shipment.

Formula:

Stock Value at Cost = Unsold Quantity × Cost Price per Unit

Journal Entry:

• Debit: Consignment Stock (with the value of unsold stock)
• Credit: Consignment Account

Invoice Price Method

Under the invoice price method, consignment stock is valued at the price at which the goods were invoiced to the consignee. This price includes the consignor’s markup or profit margin. However, since this profit is unrealized until the goods are sold, an adjustment must be made for unrealized profit.

Formula:

Stock Value at Invoice Price = Unsold Quantity × Invoice Price per Unit

Adjustment for Unrealized Profit = Unsold Stock × (Invoice Price−Cost Price)

Journal Entry for Adjustment:

• Debit: Consignment Account (for the unrealized profit)
• Credit: Consignment Stock Reserve

Accounting Entries Summary:

• Goods sent on consignment:
  • Debit: Consignment Account
  • Credit: Goods Sent on Consignment (Cost/Invoice Price)
• Expenses incurred by consignor:
  • Debit: Consignment Account
  • Credit: Cash/Bank
• Expenses incurred by consignee (when reimbursed):
  • Debit: Consignment Account
  • Credit: Consignee’s Account
• Sales made by consignee:
  • Debit: Bank/Cash
  • Credit: Consignment Account
• Commission earned by consignee:
  • Debit: Consignment Account
  • Credit: Consignee’s Account
• Abnormal loss:
  • Debit: Abnormal Loss Account
  • Credit: Consignment Account
• Insurance compensation received:
  • Debit: Bank
  • Credit: Abnormal Loss Account
• Unsold stock valuation (cost price):
  • Debit: Consignment Stock
  • Credit: Consignment Account
• Unsold stock valuation (invoice price):
  • Debit: Consignment Stock
  • Credit: Consignment Account
  • Adjustment for unrealized profit:
    • Debit: Consignment Account
    • Credit: Consignment Stock Reserve