- Course: Finance for Absolute Beginners
- Module: Accounts Receivable, Accounts Payable and Inventory
- Lesson Type: Video
- Lesson Duration: 5:36
It is Day four of our Lemonade Stand business.
To create a map of transactions for Days 4, 5 and 6 of the Lemonade Stand, please create a similar layout in your notepad or take screen shot of this screen and print it out.
It is a three day weekend. To save time on trips to the store, we will buy supplies for all three days. These supplies will be in our inventory. First, let’s check the weather forecast.
There is a 10% chance of rain on Day 1, lots of sunshine on Day 2 and 20% chance of rain on Day 3. What’s more? A baseball game is scheduled for Day 3.
We are at the grocery store. The cost of supplies to make 1 cup of lemonade is $.40.
Based on the weather forecast and planned baseball game, we decide to buy supplies for 90 cups of lemonade. We pay $36 in cash.
How does this impact our financials?
When we buy supplies to store in our inventory, one side of the transaction is, cash is decreased, the other side of the transaction is, inventory is increased.
Let’s see how this transaction maps on the financial statements. This is our income statement and the balance sheet. $83 under cash is our cash balance at the end of Day 3. $30 under owner’s investment is our initial investment, and $53 is our total profit since we started selling lemonade. When we buy supplies, negative $36 is recorded under cash reflecting decrease in cash and positive $36 is reflected under inventory, reflecting increase in inventory.
We made 20 cups of lemonade for Day 1. How many cups did we sell on Day 1? Our demand was also 20 cups. We sold everything we made.
Our price was $1 per cup. We sold 20 cups for a total of $20 in cash. How does this impact our financials?
When we sell lemonade, cash is increased and sales are increased. These are the two sides of this transaction. Since we used supplies from our inventory to make and sell lemonade, we need to reduce our inventory and reflect the cost of those supplies as an expense. Generally, cost to produce products we sell is reflected under Cost of Goods Sold, and cost of services we sell is reflected under Cost of Sale. Let’s now refer to the cost of making our lemonade as Cost of Goods Sold.
To reduce our inventory by the cost of supplies we used to make lemonade we sold and reflect it as Cost of Goods Sold, one side of the transaction is, inventory is decreased, the other side of the transaction is, cost of goods sold is increased. These are the other two sides of this transaction. Each transaction can have more then one account on each side. Totals of each side have to equal.
Let’s look how this works with our numbers. Inventory is decreased by $8. Cost of Goods Sold is increased by $8.
This is our Income Statement and the Balance sheet. When we sell lemonade, $20 is recorded under sales reflecting increase in sales, and $20 is recorded under cash reflecting increase in cash. Negative $8 is recorded under inventory reflecting decrease in inventory for the supplies we used to make lemonade we sold and $8 is recorded under Cost of Goods Sold reflecting the cost of the supplies we used to make lemonade we sold.
What if our customers would like to buy some lemonade and don’t have any cash? If we sell lemonade with a promise from the customer to pay later, it is called selling on credit. If we use accrual method of accounting, we recognize sales at the time of sale. If we use cash method of accounting, we recognize sales when we receive cash.
Most organizations use accrual method of accounting. For the purposes of this course, we will use accrual method of accounting. All we need to know is that when customers do not pay us at the time of sale, we reflect it under accounts receivable. In our example of selling lemonade on credit, the two side of the transaction are: Sales are increased and Accounts Receivable are increased. Accounts Receivable reflect amounts our customers owe us for the products and services they purchased from us if they did not pay for them at the time of purchase.
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Module 1 0/5
Setting The Foundation
Module 2 0/2
Module 3 0/1
Module 4 0/1
Module 5 0/4
Accounts Receivable, Accounts Payable and Inventory
Module 6 0/1
Interpreting Financial Statements
Module 7 0/5