Net purchases

Net purchases
See also
Purchase returns and allowances Packing credit Operating cycle Merchandise inventory Wholesale price Purchase account Inventory in transit Discount pricing Cycle stock

Net purchases can be defined simply as the gross purchases of goods in order to be resold, and from the amount purchase returns, discounts and allowances have to be subtracted . These are goods purchased minus purchase returns, allowances, and discounts. The purchase returns happen in a case when people who purchase something, id est the buyers return goods which had been bought from the suppliers acquisition by the payment of money or its equivalent.

${\text{Net Purchases}}={\text{Purchases}}-{\text{Purchases Returns and Allowances}}-{\text{Purchases Discounts}}$

In general, a purchase has several definitions, such as something which is bought or purchased, the acquisition by means of labour, effort, etc., the acquisition of any property, such as a land by means which are other than inheritance, all the means of increasing or applying influence, power, etc., as well as a strong and certain footing or grip on something. Also, it is cost of resale to end customer but it does not include insurance costs, storage costs, interests and other. a

Account purchases

Due to the fact that return of purchased goods is not only money, but also time consuming, account purchases returns will be created. Because of that, the management of a company is able to notice the size of the returns which have already happened.

• The purchase allowances can be described as reductions in costs of goods that the buyer had purchased.
• The allowances are granted by the suppliers due to the fact that there are some problems that may appear during purchasing and after it, such as shipping the goods which are incorrect, the improper number of items, the failures of the goods, etc. When the purchase allowances occur, the purchasers do not return the goods to the suppliers.
• The purchase discounts are defined as offers aimed at reducing the price of items which is conducted by the suppliers and granted to the buyers as some kind of encouragement to pay in a specific time.

In other words, net purchases are the gross amount of acquisitions and purchases which are made, minus deductions for returns, allowances and discounts of the purchase. The sum of net purchases can be lower in comparison to the quota of gross purchases. The differentiation may be used in order to count and estimate the operating of the purchasing department as well as its effectiveness in achieving the reduction of prices of the goods.

Contra purchase accounts

There are two contra purchase accounts existing in the balance sheet and they are necessary to calculate net purchases:

1. Purchase discounts - discounts that company receives as invoices were paid early, flip side of that account is sales discount,
2. Purchase returns and allowances - value of returned items, for example returned to supplier because of late delivery or damaged delivery so products did not meet requested conditions that were supposed to be, flip side of that account is sales returns and allowances.

Below table shows that cost of purchases equals 135 500 and it is start point for calculations. It needs to be decreased by 5 000 because it is the value of dicounts, it gives 130 500. Then, cost of purchases needs to be decreased by cost of returns and allowances - that equals exactly 123 500 and it net purchases value:

Cost of purchases	Discounts	Returns and allowances	Net purchases
135 500	5 000	7 000	123 500

Besides above contra purchase expenses, to calculate net purchases, another account is used as step before to calculate cost of purchases. This is freight in. Purchase value should be decreased by freigh in value.

Net purchases together with beginning of inventory value gives value of goods available for sale. Then, after some time at the end of period, goods available for sale might be divided into ending inventory value and cost of goods sold.

Debit and credit view

Purchases and expenses are included in debit balance, therefore contra purchase expenses are included in credit side:

Debit	Debit	Credit	Credit
(Sales discount)		Discounts	5 000
(Sales returns and allowances)		Returns and allowances	7 000
Cost of purchases	135 500
Net purchases	123 500

Examples of Net purchases

• An online retailer purchases a large quantity of new electronics from a supplier. After subtracting the purchase returns, discounts and allowances, the net purchase amount is the total cost of the goods that the retailer can resell.
• A retail store purchases a new shipment of clothes from a manufacturer. After subtracting the purchase returns, discounts and allowances, the net purchase amount is the total cost of the goods that the store can resell.
• A grocery store purchases a variety of different food items from a wholesaler. After subtracting the purchase returns, discounts and allowances, the net purchase amount is the total cost of the goods that the store can resell.

Advantages of Net purchases

Net purchases are a necessary part of any business’s operations, as purchasing goods for resale is essential for generating revenue. Here are some advantages of net purchases:

• They provide businesses with the necessary goods to meet customer demand. By purchasing goods for resale, businesses are able to provide customers with a wide range of products and services, which can help to increase sales and profits.
• Net purchases allow businesses to take advantage of bulk discounts and other incentives offered by suppliers. By buying larger quantities of items at reduced prices, businesses can save money on the cost of goods and increase their profits.
• Net purchases can help businesses to maintain a steady supply of goods. By purchasing goods in bulk, businesses can ensure that their shelves remain stocked and that customers can access the items they need without having to wait.
• Net purchases can help businesses to manage their cash flow. By buying items in bulk, businesses can spread out their payments over a longer period of time, allowing them to better manage their financial resources.

Limitations of Net purchases

Net purchases can have several limitations, including:

• Not taking into account inventory that is received from other sources, such as through barter arrangements or donations.
• Not accounting for the cost of freight or other associated shipping costs.
• Not considering the cost of labor or other overhead costs associated with acquiring the goods.
• Not including the cost of any additional materials that are needed to complete the product or service.
• Not accounting for any taxes imposed on the purchase.
• Not capturing any additional costs associated with the purchase, such as insurance or interest payments.
• Not including any exchange rate differences between the country of purchase and the country of sale.

Other approaches related to Net purchases

Net purchases can be approached from several angles. These include:

• Purchase orders: These are orders placed by a business for goods and services to be used in the company's operations. Purchase orders typically include detailed specifications of the items to be purchased and their quantities.
• Inventory management: A company needs to keep track of the inventory of goods that it has purchased and the inventory of goods that it has sold. This includes monitoring stock levels, tracking deliveries, and monitoring customer demand.
• Procurement: This involves the process of acquiring goods and services from external suppliers. It includes researching and selecting suppliers, negotiating prices and terms, and managing supplier relationships.
• Price negotiation: This involves negotiating prices with suppliers in order to get the best deal possible.
• Payment terms: This involves negotiating payment terms with suppliers, including payment schedules, payment methods, and payment discounts.

In summary, net purchases involve a variety of activities, from purchase orders and inventory management to procurement, price negotiation, and payment terms. Each activity requires careful attention to ensure the best possible deals and the most efficient use of resources.

References

• Arce O., Nuno G., Thomas C., (2019), The Eurosystem’s monetary policy following the end of net asset purchases in Economic bulletin 1/2019 analytical articles"
• Baldwin A., (2011), A Better Inflation Indicator: A CPI with a Net Purchases Approach to Owned Accommodation, 2005-20101 presented at the 2011 Annual Meeting of the Canadian Economics Association at the University of Ottawa, Friday June 3, 2011
• Khan M., Jain P., (2006), Management Accounting McGraw - Hill, New Delhi
• Kieso D., Warfield T., Young N., Wiecek I., McConomy B., (2016), Intermediate Accounting John Wiley & Sons, Canada
• Loughran M., (2011), Financial Accounting For Dummies, John Wiley & Sons
• Marquez J., Foley1 C., (2014), Measuring Flight-to-Safety in Foreign Private Net Purchases of US Treasury Securities
• Padney I., (2018), Financial Management Vikas, India
• Walther M. L., Skousen C. J. (2010), Current Assets: Part I, Bookboon

Author: Ewelina Gał, Jakub Chmiel