Income Statement

Question 1

what are income statements?

Answer 1

they give a historic view of the business’s trading income and expenditure over the previous 12 months

Question 2

what does the trading account show?

Answer 2

what the sales of the business have been and the direct costs of making those sales - known as cost of sales

Question 3

what is opening stock?

Answer 3

the stock the business has at the start of the year

Question 4

how to workout cost of sales?

Answer 4

opening stock + purchases - closing stock

Question 5

how to workout gross profit?

Answer 5

revenue/trading income - cost of sales

Question 6

what is gross profit an indicator of?

Answer 6

how efficiently the business is at making and selling its product

Question 7

what does the net profit figure tell us?

Answer 7

the actual profits after all the costs have been paid

Question 8

how to workout net profit?

Answer 8

gross profit - total expenses

Question 9

what are the three stages of an income statement?

Answer 9

the trading account

the profit and loss account

apportionment account

Question 10

what does apportion mean?

Answer 10

to share

Question 11

how to workout profit after tax?

Answer 11

net profit - tax

Question 12

how to workout retained profits?

Answer 12

profit after tax - dividends

Question 13

how will a sole trader’s income statement be different to public and private limited companies?

Answer 13

more straightforward and may not be an apportionment account as all profit goes straight to sole trader

Question 14

how can a business improve its profits by increasing the selling price of products? give a why, a will it work and why it may not work.

Answer 14

why -
higher selling price = higher sales assuming quantity sold doesn’t fall
maximises value extracted from consumers
consumers may perceive product as high quality
no need to extra production capacity

work? -
depend on price elasticity of demand
if customers stay loyal and perceive product as good value

not work? -
competitors likely to respond
customers may switch to competitors

Question 15

how can a business improve its profits by having special offers on products? give a why, a will it work and why it may not work.

Answer 15

why -
properly marketed discounts create special buying opportunity in customers minds, spurring them to action
may buy more than needed

work? -
way of promoting new good
receive attention on new goods people may not usually buy and getting rid of old stock

not work? -
good strategy if it doesn’t impair long term profitability - it often does
how much profit can be lost now that customers pay less to what they could’ve paid in full
competition may respond
may affect perceptions about value/quality of good

Question 16

how can a business improve its profits by increasing
advertising? give a why, a will it work and why it may not work.

Answer 16

why -
generates more sales and future profits
increases awareness of good
to build demand, must be able to reach new audiences
change consumers’ perception

work? -
consumers can be persuaded to buy
inform consumers with control of message

not work? -
expensive
advertising by itself not effective to increase in sales
impersonal

Question 17

how can a business improve its profits by increasing output? give a why, a will it work and why it may not work.

Answer 17

why -
greater quantity of product sold
enables businesses to maximise share of market demand
spreads fixed costs over greater number of units

work?
yes if extra output can be sold eg finding new market, offering lower price
yes is business has spare capacity

not work? -
what if demand not there?
fixed costs may rise
production quality may be lowered due to rush to produce more

Question 18

how can a business improve its profits by reducing variable cost per unit? give a why, a will it work and why it may not work.

Answer 18

why -
increase value to each unit sold
higher profit margin for each product
customers do not notice change in price

work? -
yes if suppliers persuaded to offer better prices
yes if quality can be improved through lower wastage
yes if operations organised more efficiently

not work? -
lower input costs may mean lower quality inputs which can increase wastage
customers may notice decrease in quality

Question 19

how can a business improve its profits by reducing wages? give a why, a will it work and why it may not work.

Answer 19

why -
may have too many employees, productivity levels could be higher
too many middle managers
be sure they are in line with current trends

work? -
reducing wages increases profitability only if sales price and number of sales remain constant or else company may have to lower prices due to cost reductions and low quality products to maintain same level of sales
staff may increase productivity to achieve bonuses

not work? -
staff may become demotivated
could result in higher staff turnover and may lose core employees

Question 20

how can a business improve its profits by buying in bulk? give a why, a will it work and why it may not work.

Answer 20

why -
gaining purchasing economies of scale
receive bigger discounts
reduce admin costs

work -
if space is available/unused
depends on type of good otherwise spoilage
allow firms to meet unexpected increase in demand

not work -
affect cash flow with upfront fees
excess stock
expired shelf life may increase waste

Question 21

how can a business improve its profits by using just-in-time production? give a why, a will it work and why it may not work.

Answer 21

means not holding much stock so saving money from paying for stock that may not be needed

why -
lower investment in inventory
reduced space required to store inventory
simplification of costing system

work -
reduced risk of defective and obsolete inventory
reduced manufacturing costs

not work -
place smaller orders more frequently
supplier may need to increase the cost per order to cover their costs

Question 22

how can a business improve its profits by reducing advertising? give a why, a will it work and why it may not work.

Answer 22

why -
no direct link that advertising increases sales
free up cash flow without reducing quality

work -
yes there are free methods of advertising and may be more accurate in reaching target market

not work -
competitors still advertise
fail to reach new target customers

Question 23

how can a business improve its profits by reducing fixed costs? give a why, a will it work and why it may not work.

Answer 23

why -
higher profits immediately
reduces break-even output
substantial savings made by cutting unnecessary overheads

work -
yes provided costs cut don’t affect quality, customer service or output
business can nearly always find savings in overheads

not work -
may reduce ability of business to increase sales
intangible costs may lower morale after making redundancies

Question 24

what are 3 strengths of income statements?

Answer 24

can measure success of business compared with previous years/other businesses

enables owners and managers to plan ahead therefore helping in the management decision making

provides info. for stakeholders

Question 25

what are three limitations of income statements?

Answer 25

performance of business can’t be judged from one year figures of income statement and must be judged from other years to see progress

financial accounts can be ‘window dressed’ meaning profits can look lower or higher on purpose for reasons and a low estimate can be put on depreciation and assets sold off

many other factors a firm must take into account when assessing financial performance

Question 26

what two factors should be considered when making a judgement on how well a business is doing?

Answer 26

has new management pushed up pricing, boosting profit short term bu at a cost of reduced market share in the long term?

is a business which pollutes the environment, used materials from unsustainable sources but makes a large profit, a successful business?