Assume that XYZ Distributors Inc (XYZ) sells only the Premier brand of water heaters. XYZ receives an order for 40 of the water heaters from a condominium developer located 30 miles away. XYZ then places an order for 40 water heaters from Premier Manufacturing Corp. However, XYZ instructs Premier to deliver them directly to the condo project. So instead of delivering them to XYZ's warehouse, Premier is asked to drop ship them to the condo project. The drop ship means that XYZ will not have to receive the water heaters, unload them, reload them onto its trucks and then deliver them to the condo project. Hence the drop ship allows XYZ to avoid some expensive non-value-added activities.
When Premier ships the water heaters, it will bill XYZ and will send the invoice to XYZ. As a result XYZ will have a purchase and an account payable for the amount charged by Premier. XYZ will prepare its own sales invoice to bill the condo developer.
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