121 the income statement

Question 1

what does a profit and loss statement show

Answer 1

profit and loss account (income statement) shows whether a business has made a profit or loss during a certain period of trading, usually at the end of the trading year. It will also help management to identify how profit arose, by categorising costs between the cost of sales and expenses.

Question 2

what are the components of a profit and loss statement

Answer 2

sales revenue - total amount of money made by a business in a trading year from selling goods and/or services
costs of sales - these are the direct costs (usually variable costs) involved in making the sales revenue eg, paying for labour and raw materials/ stock
gross profit - sales - cost of sales
expenses - the costs that are not directly involved in the production process or the making of goods (usually they include fixed costs). eg.rent
net profit - gross profit- expenses

Question 3

what does net profit show

Answer 3

measures how efficiency a business manages its fixed costs and shows how efficient the business is overall as business revenue and expenses are included in the calculation (new profit= gross profit- expenses)

Question 4

what does gross profit show

Answer 4

measures the operational efficiency of a business , how good is the business at turning inputs into profitable outputs, show how efficiency the company generates profit from its direct costs. (gross profit= sales- cost of sales)

Question 5

how to improve net cash flow

Answer 5

• redundancies* - reduces staff wage costs as they have been removed from the business -> (A03) however increases short term costs as you have to make redundancy payment, loss of capacity in the long term
  relocating production abroad -reduces costs in the short term , wages and rent will be cheaper in another country -> (A03) however, it makes it harder to quality check products as it’s from a different country , market research needed -may not like the same product in another country
  increasing adverting - more people buy product because they know about it , should increase long term net profit due to greater brand awareness -> (A03) however , advertising expensive , depends on if advertising is effective

Question 6

evalaute usefulness of income statement to a business

Answer 6

• allows business to review performance in line with objectives outlined in business plan ->
  (+) can demonstrate if they are on track or not , if not them adapt strategies accordingly
  (-) usefulness depends on the accuracy of figures presented and realistic nature of goals
• identify any costs that might be higher than anticipated ->
  (+) take measures to adjust costs accordingly
  (-) depends on stability of external factors eg covid