1. Income statements Lesson outcome:
Understand the main elements of an income statement
Interpret a simple income statement
Use income statements as an aid to decision making

2. Profit and Loss Account
Mr Reading's Burger Bar
2007
2008
£OOO
Sales (Turnover)
300
350
Cost of Sales
Opening Stock 40 30
Purchases
120
145
160
175
Less Closing Stock 35
130
140
Gross Profit
170
210
mbnj
Less expenses
Wages 50 55
Insurance 2 3
Rates 11 12
Rent
Telephone
Advertising 4 5
Depreciation IT
Light and heat 75 8
118
135
Profit 52
Corporation Tax 17
Profit After Tax 58
Divends paid 15 20
Retained profit carried forward 25 28
Trading Account
Profit and Loss Account
Appropriation account

3. The income statement serves several important purposes:
Allows shareholders/owners to see how the business has performed and whether it has made an acceptable profit (return)
Helps identify whether the profit earned by the business is sustainable
Enables comparison with other similar businesses (e.g. competitors) and the industry as a whole
Allows providers of finance to see whether the business is able to generate sufficient profits to remain viable (in conjunction with the cash flow statement)
Allows the directors of a company to satisfy their legal requirements to report on the financial record of the business

4. What is Income statement all about?
The Income statement is actually 3 different things all rolled into one! The names of these 3 sections are:
Trading Account
Profit and Loss Account
Appropriation Account

5. To keep things simple, the Income statement looks at all of the things that you have bought and sold across a year and takes away all of the costs you had to pay during that year.

6. If you make more money than you have to pay out you are in profit
If you pay out more than you make then you are in loss.

7. Ok so what is a Trading Account?
The Trading Account is used to calculate the amount of GROSS PROFIT that a business makes.

8. Let’s show you what this actually means using Sidney the Dodgy Salesman to help us out.
I have made £35,000 in sales during this year.
Sidney has enjoyed a good year but we now need to work out how much these items cost him to buy to help us calculate his profit.

9. Remember that this is Sidney’s Sales Revenue and it is NOT his profit!

10. OPENING STOCK
At the start of the year, Sidney’s warehouse was almost empty. He only had £1,000 worth of goods left.

11. Blimey I need to buy more stock and quickly!
PURCHASES
Sidney bought £12,000 worth of new goods during the year which he intended to sell to the general public.

12. FULL WAREHOUSE!

13. CLOSING STOCK
At the end of the year I have got only £2,000 worth of stock left in my warehouse.
Closing stock is the value of the stock left in the business at the end of the year. It is the amount of stock that is UNSOLD!

14. COST OF GOODS SOLD IMPORTANT FORMULA OPENING STOCK + PURCHASES
The Cost of Goods Sold figure helps us to work out how much money Sidney has made from the buying and selling of stock during the year.
IMPORTANT FORMULA
OPENING STOCK
+ PURCHASES
- CLOSING STOCK
= COST OF GOODS SOLD

15. Do you think that I made a profit this year?
Well we can help Sidney to find out by taking away the Cost of Goods Sold from Sales Revenue. This tells us how much Gross Profit (or loss) was made.

16. Bob the Blob’s Question Time
Can you work out Sidney’s Cost of Goods Sold?
What was Sidney’s Gross Profit figure for this year?

17. Well did you get the right answers?
You should have got the following answers:
COST OF GOODS SOLD
Opening Stock = £1, Purchases = £12, Closing Stock =£2,000 = £11,000
Cost of Goods Sold = £11,000
GROSS PROFIT
Sidney had Sales Revenue of £35,000.
We take away the Cost of Goods Sold =£11,000
This means £35,000 - £11,000 = £24,000
Gross Profit = £24,000

18. Bob the Blob’s Question Time
Explain TWO ways in which Sidney could have increased his levels of Gross Profit?
(Hint. Think about changing his suppliers and maybe changing the prices he charges his customers!)
What is the correct formula for calculating Gross Profit
Sales revenue – cost of goods sold
What is the correct formula for calculating Cost of Goods Sold
Opening stock + purchases – closing stock = cost of goods sold

19. THE PROFIT & LOSS ACCOUNT
Ok so what is the Income statement all about?
THE PROFIT & LOSS ACCOUNT

20. Ahh actually sorry Sidney but you do not have £24,000 to spend.
Cool I’m rich I’ve got £24,000 of profit to spend!
Ahh actually sorry Sidney but you do not have £24,000 to spend.
This figure is only your GROSS PROFIT figure....we still need to take away all of Sidney’s expenses.

21. Can you think of what some of these expenses might be?

22. Hmm what exactly are expenses?
Well expenses are extra costs that you have to pay for things that help you to operate as a business.

23. I had to pay my electric and gas bills, staff wages, rent for the warehouse and van hire.
So you see when we add all of these extra expenses together they suddenly bring down the amount of profit that Sidney earned.

24. We take away all of the expenses from his Gross Profit to work out his OPERATING PROFIT.
OPERATING PROFIT = GROSS PROFIT – TOTAL EXPENSES

25. Work out Sidney’s Operating Profit using these figures.
Electricity Bill = £1,500 Gas Bill = £1,450
Telephone Bill = £325 Petrol for Van = £500
Gross Profit = £24,000 Rent of Warehouse = £5,500

26. OPERATING PROFIT = £14,725
Did you remember to show ALL of your working out!

27. Right so I’ve made £14,725. Can I spend all of this?
OPERATING PROFIT
Unfortunately not Sidney.....you still owe money to the bank and the Government in the form of Taxes!

28. You always pay the Banks back first!
You owe the bank £2,500 in interest payments on your loan.
You always pay the Banks back first!

29. Sole Traders & Partnerships pay Income Tax
And you owe the Government £3,000 in tax please!
Sole Traders & Partnerships pay Income Tax
Companies pay Corporation Tax

30. Operating Profit = £14725 Interest Charges = £2,500 Tax Bill = £3,000
Can you work out Sidney’s Net Profit using these figures?
Operating Profit = £14725
Interest Charges = £2,500
Tax Bill = £3,000
PROFIT =£9,225

31. What is the name of the tax that Sole Traders and Partnerships must pay upon their profits?
Answer: Income tax
What is taken away from Operating Profit first: Interest or Taxes?
Answer: Interest

32. Ok I’ve made £9,225 Net Profit can I spend this now?
YES!!!! Once you have taken away interest and tax payments, what is left as Profit is entirely your own money to spend as you want to.

33. I’m going to save £2,000, and take out £7,225 as my wages (called DRAWINGS).
When a business saves some money this is called RETAINED PROFIT. This can be used for future investment and means that they will need to borrow LESS from a bank! If Sidney was a limited liability company he might have to pay DIVIDENDS

34. APPROPRIATION ACCOUNT
The Appropriation Account is the final section that we need to learn. This shows us what Sidney decided to do with his £9,225 of Profit.

35. What does a proper Trading, Profit & Loss Account look like?

36. Example Business Ltd
Income Statement
20X1
20X0
Year Ended 31 December
£'000
Revenue
21,450
19,780
Cost of sales
13,465
12,680
Gross profit
7,985
7,100
Distribution costs
3,210
2,985
Administration expenses
2,180
1,905
Operating profit
2,595
2,210
Finance costs
156
120
Profit before tax
2,439
2,090
Tax expense
746
580
Retained profit
1,693
1,510

37. Create you own Variable costs per unit= £ 50 Sales volume= 1650
Selling price= £13.50
Wages= £2000
Insurance= £ 387
Rent= £ 2750
Depreciation= £ 450
Advertising= £ 366

38. Complete Exam question 1 (a-e), pg 293 and Exam Question 2 (a-e) for H/W