Components of a Profit and Loss Account
From “An Introduction to the Profit and Loss Account¨ in Accounting and Finance for Managers
The profit and loss account is concerned with measuring the financial performance of a business during a specified time period. Financial performance in this context refers to […]: “Is this business profitable?”
Insofar as the profit and loss account statement is meant to report the profit of a company for a specified period of time, it is necessary to know how to calculate profit (Kind 1999, 11):
From “An Introduction to the Profit and Loss Account¨ in Accounting and Finance for Managers
Profit is the difference between the revenues or sales or turnover (these words have the same meaning) and the costs incurred in producing those revenues. Revenues represent the invoiced value of the goods and services provided to customers. Costs are the expenses involved in generating the revenue.
Profit is revenue minus expenses
Mathematically speaking, where is profit, is revenue, and is expenses necessary to generating that revenue, then: .
Gross Profit
It is important to note that profit as calculated earlier is implicitly gross profit, because expenses used to calculate it only include costs related directly to that which is the source of revenue. In addition, this means that, often (Kind 1999, 12):
From “An Introduction to the Profit and Loss Account¨ in Accounting and Finance for Managers
Gross profit is worked out before the deduction of business or operating costs.
“Deduction¨
A deduction is the subtraction or removal of something.
Gross profit is revenue minus expenses on sources of revenue
Given what was just said, perhaps another way of writing would be , wherein the subscripts specify the type of profit and the type of expense.
Operating Profit and Operating Expenses
Meanwhile (Kind 1999, 13):
From “An Introduction to the Profit and Loss Account¨ in Accounting and Finance for Managers
Operating or trading profit is related to operating costs, insofar as operating costs provides the context for production or the conditions of possibility for exchange. Sources of operating costs can vary, but some examples are “advertising and salaries¨ (Kind 1999, 12). If this additional cost is accounted for when looking at profit, the profit thereby becomes operating or trading profit.
Operating profit is revenue minus operating expenses and expenses on sources of revenue
Operating or trading profit is calculated as , where the subscript Ҭ qualifies it as an operating figure. Arguably, the direct cost of the source of revenue should still carry over, leading to:
Reporting Unrealized Revenue
In financial statements, “accruals,¨ i.e. the additional revenue that will be made from provided goods and services and their raised invoices, are included as part of actual revenue (Kind 1999, 11). That is, cash, or monetary currency, need not have been received yet from customers (Ibid).
The same applies to expenses, such that expenses (Ibid):
From “An Introduction to the Profit and Loss Account¨ in Accounting and Finance for Managers
[…] are included in the profit and loss account according to the time period to which they relate and not when they are paid out in cash.
The consequence of this method of accounting for revenue and expense is that “earning a profit and generating cash are not at all the same thing¨ (Ibid).
Profit realization
The conversion of earned profit into cash can be referred to as “profit realization.¨
profitability financial_performance accounting finance accruals accrual mathematics math money profit_realization gross_profit operating_profit trading_profit customer invoice good service formulae formula formulas profit_and_loss_account profit_and_loss_statement mathematics mathematical_operator mathematical_operators binary_operators binary_operator mathematics mathematical_operator mathematical_operators binary_operators binary_operator addition subtraction subtraction_operator subtraction_operators sum addition_operator addition_operators equality difference math
bibliography
- “An Introduction to the Profit and Loss Account.” In Accounting and Finance for Managers. The Fast Track MBA Series. Dover, NH: PriceWaterhouseCoopers, 1999.