Finance and accounts

Subject: Accounts

Topic: Profit and loss account

The purpose of the profit and loss account is to:

Show whether a business has made a PROFIT or LOSS over a financial year.
Describe how the profit or loss arose – e.g. categorising costs between “cost of sales” and operating costs.

A profit and loss account starts with the TRADING ACCOUNT and then takes into account all the other expenses associated with the business.

Trading account

The trading account shows the income from sales and the direct costs of making those sales. It includes the balance of stocks at the start and end of the year.

An example of the trading account of a business would look this:

Trading account for XYZ plc for the year ended 31 st March 2003

Category	£	£
Sales		1,200,000
Opening Stock	150,000
Purchases	400,000
less Closing Stock	(220,000)
Cost of Sales	330,000	(330,000)
Other Costs		(70,000)
Gross Profit		800,000

Note that the closing stock figure would appear in the balance sheet under Stock.

Profit and loss account

The trading account now has all the other expenses now deducted.

It would look like the table below:

Trading, profit and loss account for XYZ plc for the year ended 31 st March 2003

	£’000		Examples
Turnover (sales) revenue	1,200	The amount of money generated by sales	e.g. 400 cars at £3,000 each
Cost of sales	(400)	The cost of making the goods or buying them	Raw materials Cost of labour working directly on each product Cost of running the machines/equipment
Gross profit	800	Turnover minus cost of sales
Overheads or expenses	(320)	Costs not directly involved in the production process (indirect costs)	Cost of premises e.g. rent, insurance, repairs Office costs e.g. stationery, postage, computer maintenance, staff salaries and wages Sales and marketing costs e.g. salaries of salesmen, advertising Finance costs e.g. bank charges, interest on bank loans
Operating profit	480	Gross profit minus overheads Also known as NET PROFIT
Interest and taxation payable	(200)	The money that is due to be paid in interest on loans and to the Inland Revenue as tax
Net profit after tax and interest	280	The money available to be distributed to shareholders
Dividends	(170)	Money paid to shareholders as a reward for holding shares
Retained profit	90	The money left for the business to reinvest

The business has to pay tax at the rate determined by the government and interest at the rates determined by the lenders.

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