by Retail accounting isn’t a special kind of accounting process or system, but rather an inventory valuation technique often used by retailers. It differs from “cost accounting” for inventory in that it values inventory based on the selling price rather than the acquisition price.
The retail method is an accounting method used to provide a comprehensive account inventory at the item’s retail price in order to detect losses, damages and theft of stock allowing small business owners to track costs, keep account of the goods you’re buying or selling, know how much is left over, and maintain the right amount of inventory at all times.
The retail method uses the cost to retail price ratio to estimate the value of the inventory. To calculate the value of ending inventory, you need to follow these steps:
- Maintain a comprehensive record of purchases and on-hand goods at cost price and retail price
- Calculate a cost-to-retail ratio
Formula = Cost price x 100 / Retail price
- Estimate the ending inventory at retail prices by subtracting the retail price of goods sold from the retail price of goods in inventory
- Convert the estimated inventory at retail price to cost price by applying the cost-to-retail percentage.
Advantages
- This accounting method involves easy calculations, as all units of one item have the same price and experience the same changes in the price.
- It is convenient for retailers operating multiple stores, as it can save time in conducting physical inventories.
- In retail accounting, preparing financial statements gets easier due to simple calculations.
- This method is independent of labour-intensive physical inventory counts.
Disadvantages
- This method can be inaccurate in the event of pricing changes.
- This type of accounting can be ineffective or more complex with the introduction of discounts.
- Retail accounting often involves assuming unrealistic pricing conditions and it may be unable to provide the exact price values.
Applications:
Retail accounting for discount in sales
Sometimes, retailers may offer a reduction in the cost of the product in exchange for early payment by the customer. In many cases, retailers offer a discount when they are short of cash. When a customer takes advantage of this sale and pays less than the full amount of the invoice, the retailer records the discount as a credit to a receivable account and a debit to a sales discount account.
Retail accounting for returns
If an order gets processed, delivered and then returned within the same accounting period, retailers can make the necessary adjustments to the balance sheets. When the return happens in the sales time period, it may show an extra profit in the sales. Usually, the return process involves a credit to the receivable account and a debit to the sales return account.
Uses:
- Calculate cost-to-retail percentage
The first step involves finding the cost-to-retail percentage of a retail inventory. You require the total purchase price of the inventory and the selling or retail price. Here is a formula to calculate the cost-to-retail percentage:
Cost-to-retail percentage = (Cost of inventory / Retail price of the inventory) x 100
For example, if a store buys an inventory for ₹500 and sells it for ₹1000, they can calculate the cost-to-retail percentage by using this formula:
Cost-to-retail percentage = (₹500 / ₹1000) x 100 = 50%
- Find the cost of inventory available for sale
After determining the cost-to-retail percentage, calculate the specific time period of reporting. Then, find the cost of inventory at the start of that time and the cost of additional purchases during this time. Here is the formula that you can use to find the cost of inventory available for sale:
Cost of inventory available for sale = Cost of beginning inventory + Cost of additional purchases
- Determine the cost of sales
Next, you can calculate the total cost of sales for a particular time period. You can use the total amount of sales and the cost-to-retail percentage for the calculation. The result represents the total amount gained when selling the inventory. Here is a formula that you can use to determine the cost of sales:
Cost of sales = Total amount of sales x Cost-to-retail percentage
- Determine the ending inventory
After calculating the cost of sales and the cost of inventory available for sale, you can calculate the ending inventory. Ending inventory is the value of stock that a retail business has at the end of a particular reporting period. After determining the ending inventory, retailers can include this information on the balance sheet. Here is a formula to find the ending inventory value:
Ending inventory = Cost of inventory available for sale – Cost of sales during the reporting period
