1.6.3 profit and loss

How does profit act as an incentive in a competitive market?

High profits attract new firms to enter the market; low or negative profits encourage firms to exit

What signals market entry and exit?

Price acts as a signal; high prices signal firms to enter, low prices may signal exit

Why do entrepreneurs take risks?

To gain profit and avoid loss; profit motivates innovation, cost reduction, and quality improvement

What is the statement of comprehensive income (profit and loss account)?

Shows a firm’s revenue and expenses; gives an overview of financial position; net income = profit or loss

What are the components of profit and loss?

Income (inflows) and expenses (outflows)

How do firms calculate gross profit?

Gross profit = Total sales – Cost of goods sold (COGS)

What is gross profit margin?

Gross profit margin = (Gross profit ÷ Sales) × 100; expressed as a percentage

How can firms increase gross profit margin?

Raise prices (risking lost sales) or reduce costs (improve efficiency or reduce raw material costs)

What is operating profit (EBIT)?

Profit from core business operations; excludes investment profit, interest, and taxes

How is operating profit calculated?

Operating profit = Operating revenue – COGS – Operating expenses – Depreciation/Amortisation

What is net profit (profit for the year)?

Profit left after all expenses, interest, and taxes

How is net profit calculated?

Net profit = Total revenue – Total expenses