How is the accounting cycle different for a merchandising operation,
as compared to a service business? How do the asset, revenue and
expense accounts differ? How does the multi-step income statement
differ from a single step? Which format is better?
The primary difference between a merchandising and a service-based business is the
presence of inventory. Merchandising businesses sell goods to customer, whereas service-
based businesses do not. The companies' financial statements, including the income
statements, must reflect this difference.
Both may hire employees; both may need equipment to be in business; both types of
business structures have customers who pay for goods or services. The main difference
between a merchandising company and a service industry company is that the
merchandising company must stock inventory.
In case of merchandise business, closing inventory is maintained and is shown in current
assets of the balance sheet. In the income statement, opening inventory is maintained at
the debit side of income statement & closing inventory is maintained at credit side of income
statement. However in case of service no such inventory is maintained.
Revenue & expense account differ with kind of business it is. [For ex: in a service industry
revenue is booked when service is provided & in merchandise industry revenue is booked
when goods are sold.]
A single-step income statement gives a simple accounting of a business's net income,
whereas a multi-step income statement follows a three-step process to calculate net
income, separating operational from non-operational revenues and expenses.
The multi-step income statement uses three different accounting formulas to arrive at the
net income:
1. GROSS PROFIT = NET SALES – COST OF GOODS SOLD
Cost of goods sold is subtracted from net sales. This gives the gross profit.
2. OPERATING INCOME = GROSS PROFIT – OPERATING EXPENSES
Operating expenses are subtracted from gross profit. This gives you the operating income.
3. NET INCOME = OPERATING INCOME + NON-OPERATING ITEMS
Operating income is added to the net non-operating revenues, gains, expenses and losses.
This final figure gives the net income or net loss of the business for the reporting period.
A single-step income statement presents the revenue, expenses and ultimately the profit or
loss generated by a business, but it reports on this information by using just one equation to
calculate profits. The equation used in a single-step income statement is:
Net Income = [Revenues + Gains] – [Expenses + Losses]