Studied by 6 people
To be used for the May 2024 exams. Subject: IB Business Management SL
profit and loss (P&L) account
reports the revenues and expenses of a business at the end of a specified accounting period
balance sheet
reports the value of assets and liabilities of a business at a particular point in time (usually the last day of a financial year)
Why are final accounts important for different stakeholders?
Shareholders analyze the accounts to check management’s performance and efficiencies
Employees look for job security and the likelihood of pay increments
Managers judge the operational efficiency of their organization’s target setting
Competitors want to compare financial performance with other firms
Government checks accounts for tax purposes
Financiers assess the credibility of debt repayment
Suppliers check whether trade credit should be approved
Potential investors look at figures before investing to check likely return and make decisions
Customers want to be sure of a reliable supply of goods and services
trading account
reveals the gross profit (difference between sales revenue and the direct costs of the goods sold)
gross profit
Gross Profit = Revenue - Cost of Goods Sold (COGS)
cost of goods sold (COGS)
the cost of producing or purchasing the products sold during that trading period
COGS = Opening stock + Purchases - Closing stock
net profit
Net Profit = Total Revenue - Total Expenses
expenses
the indirect of fixed costs of production (e.g. marketing costs, rent, local taxes, etc.)
appropriation account
records how the net profit is distributed (or appropriated). There are two parts to this account: dividends and retained profit.
dividends
the shareholders receive a share of the profits determined by the board of directors. It’s usual for dividends to be paid bi-annually
retained profit
what remains after tax and dividends are paid; used to fund future expansion. For non-profit organizations, it’s called retained surplus
Formatting the P&L account (the way IB wants it)
Here's an example of a formatted P&L account table:
Profit & Loss account for Florists-R-Us, for the year ended 31 December 2020
| Sales revenue | 460,000 |
| Cost of Sales | (230,000) |
| Gross profit | 230,000 |
| Expenses: | (165,000) |
| Profit before interest and tax | 65,000 |
| Interest | (10,000) |
| Profit before tax | 55,000 |
| Tax (10%) | (5,500) |
| Profit after interest and tax | 49,500 |
| Dividends (30%) | (14,850) |
| Retained profit (70%) | 34,650 |
ratio analysis
A quantitative management tool that compares different financial figures to examine and judge the financial performance of a business
historical comparisons—involve comparing the same ratio in 2 time periods for the same firm
inter-firm comparisons—involve comparing the ratios of businesses in the same industry
profitability ratios
examine profit in relation to other figures, comprised of the gross profit margin (GPM), profit margin (PM), and return on capital employed (ROCE) ratios
Gross-profit margin (GPM)
A profitability ratio that shows the value of a firm’s gross profit expressed as a percentage of its sales revenue.
GPM = (gross profit / sales revenue) x 100
higher GPM = more gross profit to go towards paying for its expenses
Profit margin (PM)
A profitability ratio that shows the percentage of sales revenue that turns into profit (i.e. the proportion of sales revenue left over after all direct and indirect costs have been paid).
PM = (profit BI&T / sales revenue) x 100
higher PM = more profit to go towards dividends and retaining profit
Return on capital employed (ROCE)
A profitability ratio that measures the financial performance of a firm based on the amount of capital invested (i.e. sources of funds).
ROCE = (profit BI&T / capital employed) x 100
higher ROCE = firm as been more efficient at generating profit from available funds
liquidity ratios
look at the ability of a firm to pay its short-term (current) liabilities, comprised of the current ratio and the acid test (quick) ratio
current ratio
A short-term liquidity ratio that calculates the ability of a business to meet its debts within the next 12 months.
current ratio = current assets / current liabilities
ideal benchmark: 1.5 to 2 : 1; “for every $1 of current liabilities, a firm has $1.50 to $2.00 of current assets to pay for it”
quick (acid test) ratio
A liquidity ratio that measures a firm’s ability to meet its short-term debts. It ignores stock because not all inventories can be easily turned into cash in a short time frame.
quick ratio = (current assets - stock) / current liabilities
ideal benchmark: 1:1; “for every $1 of current liabilities, a firm has $1 of cash or debtors to pay for it”
efficiency (debt and equity) ratios (HL)
enables a business to calculate the value of a firm’s liabilities and debts against its equity; measure of financial stability
stock turnover
measures the number of times a firm sells its stock within a time period, usually one year; indicates the speed at which a firm sells and replenishes all its stock (two ways to calculate)
unit: times
the more times, the better
unit: days
the fewer days, the better
debtor days
measures the average number of days it takes a business to collect money from its debtors (customers who purchased products on trade credit and owe money to the business)
unit: days
the fewer days, the better
benchmark: 30-60 days
creditor days
used to measure the number of days it takes, on average, for a business to pay its trade creditors
unit: days
the fewer days, the better
benchmark: 30-60 days
gearing ratio
used to assess a firm’s long-term liquidity position; done by examining the firm’s capital employed that’s financed by non-current liabilities (e.g. mortgages and debentures)
unit: %
highly geared if gearing ratio is 50% or above
the lower, the better
insolvency
occurs when firms are unable to settle their debts when they’re due because of the lack of funds or cash in their bank accounts
bankruptcy
the formal and legal declaration of a firm’s inability to settle its debts
Last resort when all attempts to tackle insolvency have failed
Severely damages the owners’ credit rating, which hinders their ability to borrow money in the future
cash
a current asset and represents the actual money a business has. It can exist in the form of cash in hand (cash held in the business) or cash at bank (cash held in a bank account).
cash flow
the transfer or movement of money into and out of an organization
cash flow forecast
a financial tool used to show the expected movement of cash into and out of a business for a given period of time
cash flow statement
the financial document that records the actual cash inflows and cash outflows of a business during a specified trading period, usually 12 months
cash inflows
the cash that comes into a business during a given time period, usually from sales revenue when customers pay for the products that they have purchased
cash outflows
the cash that leaves a business during a given time period, such as when invoices or bills have to be paid
closing balance
the amount of cash left in a business at the end of each trading period, as shown in its cash flow forecast or statement
closing balance = opening balance + net cash flow
credit control
the process of monitoring and managing debtors, such as ensuring only suitable customers are permitted trade credit and that customers do not exceed the agreed credit period
net cash flow
the difference between a firm’s cash inflows and cash outflows for a given time period, usually per month
opening balance
the value of cash in a business at the beginning of a trading period, as shown in its cash flow forecast or statement
opening balance = closing balance from previous month
profit
the positive difference between a firm’s total sales revenue and its total costs of production for a given time period
working capital cycle
the time between cash outflows for production costs and cash inflows from customers who pay upon receipt of their finished goods and services
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