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The Profit and Loss Account

Profit and Loss Account

A profit and loss account is a summary of business


transactions for a given period - normally 12 months.
By deducting total expenditure from total income, it
shows on the "bottom line" whether your business
made a profit or loss at the end of that period.
A profit and loss account is produced primarily for
business purposes to show owners, shareholders
or potential investors how the business is performing.
But most of the information is also used by the Inland
Revenue to work out your tax bill.

Trading Account
That part of the profit and loss account
where the cost of goods sold is
compared with the money raised by
their sale to arrive at the gross profit
This gives a view of the business in
terms of sales and viability of profit

Retail trading account for Nov

Sales
Opening stock
Purchases
Less closing stock
Cost goods of sold
Gross profit
4

50 000

12 000
30 000
42 000
15 000

27 000
23 000

Yearly Profit and Loss

By law, if your business is a limited company or a


partnership whose members are limited companies,
you must produce a profit and loss account for each
financial year
Self employed sole traders and most partnerships
dont need to create a formal profit and loss account the information they complete on the self assessment
tax return form amounts to the same thing
However, there are key benefits to producing formal
accounts. If you are looking to grow your business, or
need a loan or mortgage, for example, most
institutions will ask to see three years accounts

Keeping accurate records

By law business must keep accurate records of income and


expenditure. Keep self-employment records for five years and
limited company/partnership records for six years after the
latest date your tax return is due
Accurate record keeping has important benefits. It:

gives information to manage your business and make it grow


enables reporting on profit/loss easily and quickly when required
will improve your chances of getting a loan or mortgage
makes filling in your tax return easier and quicker
helps you or your company avoid paying too much tax
provides back-up for claims for certain allowances
helps you plan and budget for tax payments
prevents interest or penalties for late tax payments
helps reduce accountant fees - your annual accounts will be far easier
to produce

The basic records you will


need to keep are:

a list of all your sales and other income


a list of all your expenditure, including day-to-day
expenses and equipment
a separate list for petty cash expenditure if relevant
a record of goods taken for personal use and
payments to the business for these
for limited companies: a record of money taken out
for personal use or paid in from personal funds
back-up documents for all of the above
You will need the information above to create your
profit and loss account

The Profit and Loss Account


The profit and loss statement shows the trading
performance of the business and the
distribution of profit. Profit is not equivalent to
cash in bank
Income
Customer sales, profit/loss from sale of tangible fixed assets,
non operating income, investment income
Expenses
Variable (direct) costs, Fixed (overhead) costs, interest paid,
depreciation allowance on tangible fixed assets

Distribution
Drawings/dividends, retained profit

Profit and Loss account


Measuring profit
Income
Expenses

The profit and loss statement shows


the trading performance of the
business and the distribution of
profit.
Increase in assets

Net Profit
Drawings or
dividends

Retained
profit

Or measuring loss
Turnover
Costs

Net Loss
Drawings or
dividends

Decrease in assets

10

Retained
loss

SIMPLE COMPANY LTD - Profit and loss account for


year ending 31.12.08

Turnover
Cost of sales (Direct costs)
Gross profit
Expenses (Overheads)
Other Costs (Depreciation)
Operating profit
Non-operating income
Interest payable
Profit on ordinary activities before
taxation/Net profit
Corporation tax
Profit after tax
Dividends
Retained profit for the period

11

950,000
525,000
425,000 Trading account
325,000
10,000
90,000
24,000
15,000

Profit and Loss


99,000 Account
22,500
76,500
30,000
46,500

Appropriation
Account

Cost of sales (Direct costs)

Production wages
Material costs
Opening stock 01.01.08
Plus purchases during the year
Less closing stock 31.12.08

Cost of Sales
12

110,000

110,000
500,000
610,000
195,000
415,000

415,000
525,000

Expenses

(overheads)

Wages and salaries (admin)


140,500
Heating and lighting
35,500
Rent and rates
40,000
Telephone
10,000
Advertising
16,000
Car expenses
42,000
Printing and stationery
17,000
Accountant fee
5,000
Insurances
10,000
Provision for bad debts
9,000

325,000

Other Costs
Depreciation

10,000
335,000

13

Depreciation

Fixed assets such as cars, computers, and machinery are


not treated the same as other expenses.
Instead of being offset against revenue in the year of
purchase, a proportion of the purchase value is allowed as
an expense each year over the life of the asset.
At the end of the useful life of the asset, it is disposed of
(scrapped or sold) and added into the P&L account as non
operating income

Typical example
Computer 1100, life of 3 years, expected to make
50 at disposal
Depreciation (1100-50)/3 = 350 per year
14

Interest and charges

Non-operating income

Interest on bank accounts


Other investment income

Interest payable

15

24,000
0

24,000

Loan interest
Overdraft charges

12,000
3,000

15,000

Simple Home Trader P&L Account for year ending March 31st 2008
Consultancy fees
Overheads
Depreciation
2150
Overdraft cost
80
Car expenses
1500
Other transport
550
Telephone
430
Stationary
700
Insurance
350
Net Profit
Drawings
Net profit retained in business

16

17,700

5,760
11,940
7,000
4,940

Taxable
amount for
inland
revenue
returns

Financial Ratios (Profitability)


Monitoring direct costs (manufacturing companies)

Gross profit margin = Gross profit / sales

Cost of materials (%) = materials costs / sales

Cost of labour (%) = labour costs / sales

Monitoring overhead costs

Net profit margin = Net profit / sales

Overhead cost (%) = Overhead costs / sales

17

Simple Company Limited profit ratio analysis

18

Turnover
Cost of sales (Direct costs)
Gross profit
Expenses (Overheads)
Other Costs (Depreciation)
Operating profit
Non-operating income
Interest payable
Profit on ordinary activities before
taxation/Net profit
Corporation tax
Profit after tax
Dividends
Retained profit for the period

Gross profit margin


Overhead cost
Net profit margin

Year
525,000

10,000

99,000

46,500

34.2%

2008

2007

950,000
500,000
425,000
325,000
12,000
90,000
24,000
15,000

800,000
450,000
300,000
200,000
15,000
88,000
20,000
16,000

92,000
22,500
76,500
30,000
44,000

88,000
20,000
72,000
28,000
40,000

44.7%
25%
10.4%

37.5%
21.4%
11.5%

2006

700,000
250,000
150,000

85,000
20,000
17,000
18,000
70,000
30,000

35.7%
12.6%

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