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What is a profit and loss statement?

The profit and loss statement is a summary of a business’s income and expenses over a specific period. It should be prepared at regular intervals (usually monthly and at financial year end) to show the results of operations for a given period.

Calculating the cost of goods sold varies depending on whether the business is retail, wholesale, manufacturing, or a service business. In retailing and wholesaling, computing the cost of goods sold during the reporting period involves beginning and ending inventories. This, of course, includes purchases made during the reporting period. In manufacturing, it involves finished-goods inventories, plus raw materials inventories, goods-in-process inventories, direct labour, and direct factory overhead costs.

In the case of a service business, the revenue is being derived from the activities of individuals rather than the sale of a product and hence the calculation of cost of goods sold is a smaller task due to the low-level use of materials required to earn the income.The image below shows how profit and loss are calculated. Joe’s Motorbike TyresProfit and Loss StatementFor the Period ended Year OneIncomeSales52000( 1,000 tyres @ $ 52 each) Total Sales52000Cost of Goods SoldOpening Stock $ - Stock Purchases 34320Less Closing Stock3120 Total Cost of Goods Sold(COGS)31200( See note below)Gross Profit20800Expenses Advertising500Bank Service Charges120Insurance500Payroll13000Professional Fees (Legal, Accounting)200Utilities & Telephone800Other: Computer Software480 Expenses total15600Net Profit before Tax5200Note; Cost of Goods Sold calculation:Towards the end of the year, Joe manages to purchase 100 more tyres on credit from his supplier for an order in the new year. This leaves him with $3,120 of stock on hand at the end of the year. Joe’s Cost of Goods CalculationOpening Stock NilAdd Stock Purchased during the year34320 (1100 tyres @ 31.20 each)Equals Stock available to sell34320Less Stock on hand at end of year3120 (100 tyres @ 31.20 each)Cost of Goods Sold 31200Where a business is a service business, that is, you are selling services not goods or products, then the profit and loss statement will generally not have a cost of goods sold calculation. In some instances, where labour costs can be directly attributed to sales, then you may consider including these costs as a cost of goods (services) sold.Tip: Regularly produce profit and loss information (monthly) and compare against previous month’s activities to ensure your profit expectations are being met.

Hint: Only those businesses that have goods (products) to sell will use the calculation of cost of goods sold ................
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