Profit and Loss Account - Coursework Example

QUESTION ONE a. Profit and Loss Account Peter’s Refrigeration Business Profit and Loss Account for the period ended 31st December 2009 ? ? Sales 3,003,500 Less Cost of Goods Sold: Opening Stock 246,000 Purchases 1,860,500 Closing Stock (287,000) (1,819,500) Gross Profit 1,184,000 Less Expenses: Rent and Rates 94,700 Gas and Electricity 28,600 Wages and Salaries 304,000 Motor Expenses 49,500 Professional Fees 12,500 Bank Charges 11,100 Insurance 2,300 Administration Expenses 12,800 Depreciation 179,100 Long-Term Loan Interest 45,000 (739,600) Net Profit 444,400 b.

A profit and loss account provides an account of the income and outgoings of the business during an accounting period, usually twelve months. The income of a business is usually sales revenue, with the direct costs of generating that income deducted from the total to give the gross profit. The indirect costs (those that cannot be directly attributed to generating revenue) are then deducted from the gross profit to give a net income figure. A single profit and loss account provides information about how much it costs to generate sales, and how much room for manoeuvre the business has before an increase in the costs of generating those sales causes the business to become unviable (e.g. raw materials may increase to a point where it is no longer financially viable to make a particular product).

This can be shown by considering the gross profit as a percentage of the sales revenue. The same can be applied to the indirect expenses of the business. Monitoring these costs can indicate when a particular supplier is becoming too expensive, and the business should look for another supplier who offers better value for money. The net profit figure, as a percentage of the sales revenue indicates the total effect of all costs relating to the business and whether the business continues to be viable and generates profits for the owner (in this case Peter).

Peter’s profit and loss account indicates that he rents property rather than owning his own factory or workshop. The depreciation figure is not broken down, which means that the type of assets that are subject to depreciation cannot be seen, although the motor expenses indicate that the business probably owns some form of motor vehicle. The depreciation indicates that some fixed assets are owned. Peter seems to pay rather a lot of bank charges, and has recently taken out a loan – there is an interest charge but no loan repayment, implying that the loan is less than a year old.

The closing stock figure is higher than the opening stock figure, which may indicate too much stock is being held or that the stock that is held is out of date and should be excluded from the stock figure by being written off or sold and the proceeds credited to the stock account, with any difference being accounted for as either a profit or a loss on the sale of a current asset. Both profit amounts look healthy, and the business looks to be trading well. However, a single profit and loss account does not provide much information, but more of an indication of the health of the business.

It would be better to see at least three years’ accounts to see what trends exist. This year could be a really good year, or a really bad year – without something to compare, it is difficult to know which it is. Care should be taken that too much is not read into the figures on this profit and loss account. (499 words) c. Balance Sheet Peter’s Refrigeration Business Balance Sheet as at 31st December 2009 ? ? ? Fixed Assets (at net book value): Machinery 1,480,000 Equipment 163,100 Motor Vans 148,700 1,791,800 Current Assets: Stock 287,000 Debtors 294,800 Cash at Bank and in Hand - 581,800 Current Liabilities: Creditors 273,000 Bank Overdraft 54,000 (327,000) 254,800 2,046,600 Long Term Liabilities: Bank Loan (1,500,000) Net Assets as at 31st December 2009 546,600 Capital Account Opening Balance 471,200 Net Profit 444,400 Drawings (315,000) 129,400 Closing Balance 546,600 d.

A balance sheet is a statement of the assets and liabilities of a business on a specific date. The assets are things that are either owned by the business, like buildings and motor vehicles, or are owed to the business, like payments due for goods sold on credit or money held in a bank account (the bank owes it to the business). The liabilities are items that the business owes to others, either in the short term (less than twelve months) or long term (more than twelve months). Peter’s business owns significant fixed assets, but as there is no information about the depreciation policy or the amount of depreciation for this year given on the balance sheet, the age of those assets is not available.

This could be important if they are coming to the end of their life and need replacing as significant funds could be needed to do this. If Peter has not been monitoring this, the need to replace the assets could come as a surprise, with no funds having been put aside to buy new assets when they are required. The presence of a bank loan on the balance sheet indicates that some significant purchase is likely to be, or has already been, made but without last year’s balance sheet, it is not possible to see where any new expenditure has taken place (it could be fixed assets or stocks or both, although as the loan is long term, it is more likely to be fixed asset purchase).

The business is running an overdraft. As the business is profitable and likely to be generating cash, it is difficult to see why an overdraft is needed. It could be a seasonal variation, with people wanting their fridges and freezers repairing before winter, but without further information, this is a supposition rather than a fact. As Peter also has a rather high balance for creditors, it might be prudent to ask if there is pressure on cash balances. This is important as it helps determine whether the business can still pay its way.

If it can’t, it can be subject to pressure if someone asks to be repaid and there is no cash to make that payment. Debtors also appear to be high: is Peter collecting the monies owed to the business in a timely manner or are some of these bad debts that should be written off? Without additional information, it is difficult to say, but the question should be asked. A single balance sheet, like a single profit and loss account, is of limited use on its own, and a better picture of the business would be obtained if previous years’ accounts were also available, as differences could be seen clearly.

As the balance sheet reflects a single point in time, the figures could be different tomorrow, with both the creditor and debtor figures suddenly coming down as they are paid. (485 words) QUESTION TWO a. Cash Flow Forecast Peter’s Refrigeration Business Cash Flow Forecast January – June 2010 January February March April May June Cash held (54,000) 185,150 209,800 231,200 253,100 288,375 Income: Cash sales 100,000 104,000 112,000 120,000 116,000 118,000 Credit sales 162,000 150,000 156,000 168,000 180,000 174,000 Cash injections Total cash receipts 262,000 254,000 268,000 288,000 296,000 298,000 Total cash held 208,000 439,150 477,800 519,200 549,100 586,375 Outgoings: Purchases (see note 1) 162,500 178,750 188,500 191,750 210,125 193,375 Rent 23,750 23,750 Gas and Electricity 7,500 7,500 Wages 25,000 25,000 25,000 25,000 25,000 25,000 Motor Expenses 4,500 4,500 4,500 4,500 4,500 4,500 Insurance 2,300 Administrative Expenses 1,100 1,100 1,100 1,100 1,100 1,100 Bank Charges 1,250 1,250 1,250 1,250 1,250 1,250 Drawings 15,000 15,000 15,000 15,000 15,000 15,000 Long-Term Loan Interest 3,750 3,750 3,750 3,750 3,750 3,750 Total outgoings 239,150 229,350 246,600 266,100 260,725 251,475 Cash balance 185,150 209,800 231,200 253,100 288,375 334,900 Notes to the Cash Flow Forecast Note 1: Purchase values calculated as follows: Jan Feb Mar Apr May Jun Current month (65% current month sales value) 162,500 169,000 182,000 195,000 188,500 191,750 Opening Stock (81,250) (81,250) (91,000) (97,500) (94,250) (95,875) Closing Stock (50% next month sales cost) 81,250 91,000 97,500 94,250 95,875 97,500 Adjustment 20,000 Totals to Cash Flow Forecast 162,500 178,750 188,500 191,750 210,125 193,375 January’s opening stock calculated as: 250,000 x 0.

65 = 81,250 2 b. A cash flow forecast enables a business to predict how much cash will come into and leave the business over a period of time. This allows action to be taken if it appears there will not be enough cash to meet expected payments, or short-term investment opportunities to be taken up if there appears to be an excess of cash at a particular time. Peter appears to have a substantial cash balance at the end of each month, which indicates the overdraft at the end of December is a one-off rather than usual.

The expenses that do not occur each month appear to be spaced relatively evenly, although the rental payment is much higher than the others and as having premises from which to trade is important, Peter needs to make sure that this is covered when it is due (although that is not a problem based on this information). His drawings seem rather high, although he may have a very expensive mortgage. But it would be cheaper for him to take less out of the business as this would help fund asset purchases without the need for a bank loan, that costs a significant amount of money each month.

(200 words)