Difference between cash and profit

Question 1

Profit

Answer 1

Sales - variable costs - fixed costs = net profit

Question 2

Cash flow

Answer 2

Cash inflows - cash outflows = net profit

Question 3

Why is there a difference between cash and profit?

Answer 3

• Timing differences - these arise because a business has not received cash straight away from a customer and it may also delay payment for its costs.
• The way fixed assets are accounted - fixed assets are the assets that a business keeps. they are treated as capital expenditure in the financial statements - so the cost of them is not treated as an operating cost. So:
  o Payment for fixed cost = cash outflow
  o Cost of fixed asset = treated as an asset not a cost
  o Depreciation = charged as cost when the value of fixed assets is reduced

Question 4

What is profit?

Answer 4

• A return on investment
• A reward for taking risks
• A key source of finance
• A measure of business success
• A motivating factor and incentive

Question 5

Gross profit

Answer 5

Revenue - cost of sales
This shows how well the business adds value to the raw materials it purchases. It can be used to assess whether the product is successful.
Margin = gross profit/revenue x 100

Question 6

Operating profit

Answer 6

Gross profit - operating expenses
This shows how efficient the business is at operating. By comparing it to the gross profit you can see how much its costs to run the business.
Margin = operating profit/revenue x 100

Question 7

Profit for the year

Answer 7

Operating profit - all other expenses + any exceptional items
This shows the profit that is available to the business to either retain, or pay out as dividends to shareholders. However the exceptional items means that this can be enlarged through the sale of assets.
Margin = profit for the year/revenue x 100

Question 8

Profit can be used for…

Answer 8

• Dividends
• Transport
• Employees
• Buildings
• Product development
• Machinery
• Stock