Borcelle
Week 3
Statement of
Profit or loss
Chapter 7 :
sole trader & profit
statement of profit / loss
return, discount and other income
other operating income, drawings and
direct wages
the full trial balance
Sole trader
A person who is exclusive owner of a business, entitled
to keep all the profit after tax. However the owner is
liable for the looses
Sole trader advantage Sole trader disadvantage
full control of the business limit on capital
running a business based on having to work for very long hour
owner full interest being expected to know a lot of skill
full share of profit on the no partner to give an idea on
owner discussion
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Statement of profit or loss
It tells you how much profit you're making, or how much you're
losing. You usually complete a profit and loss statement every
month, quarter or year.
To found if the sole trader are making a profit or loss, they
need to prepare statement of profit or loss
Trial balance is used as a starting point for producing
statement of profit or loss
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Statement of profit or loss
Trial balance is used as a starting point for producing
statement of profit or loss
The statement of profit or loss will show several things:
Gross profit – the amount of profit made on the goods themselves. It is the difference between the
revenue earned from selling those goods and the cost of selling those goods (cost of sales). Revenue is
calculated as the total sales less any refunds and is known as net sales
Profit (or loss) for the year – the ‘bottom-line profit or loss’ made by the business when all of the
day-to-day running costs (expenses) have been deducted
Expenses – the costs that the owner must incur for the business to function. Many expenses will
involve regular outflows of cash, e.g. wages, or the payment of bills, e.g. electricity.
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Returns, discounts and other incomes
There are a number of items that might require adjustments to be made to the statement of profit or loss.
These include:
inventory
carriage inwards and outwards
discounts allowed and received
other income.
sole traders removing goods for their own use
wages paid to rework goods
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Inventory
Sole traders need to keep enough inventory to meet demand but avoid
excessive stock that ties up cash.
Inventory levels at the beginning and end of the accounting year can
differ, affecting the cost of sales calculation.
Cost of Sales Formula:
Opening Inventory+Purchases−Closing Inventory=Cost of Sales
Opening inventory: Stock available at the start of the period.
Purchases: New stock bought during the year.
Closing inventory: Unsold stock at the end of the period.
learn More The closing inventory is deducted because it hasn't been sold yet.
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Carriage inwards and outwards
The carriage inward refers to the transport or freight cost which the
buyer incurs on the purchase of goods, while the carriage outward refers
to the cost of transport or freight which the seller incurs while delivering
or shipping the goods sold by it.
When goods are transported, costs are incurred that might be passed
onto the buyer. These carriage inwards costs represent an addition to
purchases. (cost of sales)
Some businesses do not pass transportation costs onto the customer.
These carriage outwards costs are shown as an expense in the
learn More statement of profit or loss.
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Discounts Allowed
Discounts Allowed (Expense):
If a customer receives a discount, the business records it as discount
allowed in the Statement of Profit or Loss as an expense.
It is separate from sales revenue because:
The discount is linked to payment timing, not the sale itself.
Not all customers will use the discount, so the original sales value
remains unchanged.
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Discounts Received
Discounts Received (Income):
When a business buys goods and pays early, it may receive a discount
from the supplier.
This is recorded as discount received, which is added to gross profit in
the Statement of Profit or Loss.
Just like discounts allowed, it is kept separate from purchases since the
purchase amount remains unchanged.
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Other operating income, drawings and
direct wages
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Other operating income
Many businesses aim to earn their income from selling goods or
providing a service. However, it is quite possible that income may be
earned in other (sometimes unexpected) ways including:
interest on bank accounts
commission earned
rental income.
As these incomes were not what the business was set up for – and may
be quite minor when compared to the main sources of income – these
are kept separate from the main revenue. These are added to gross
learn More profit, alongside items such as the discounts received.
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Drawings
Some sole traders might take goods rather than cash for their own use, e.g.
food from the shelves of a food shop. The double-entry to record this would
be:
Debit: drawings
Credit: purchases
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Wages & Cost of sales
It is possible that the business might buy in goods that are not yet in a
condition to be sold.
Employees’ time might be used to get these goods into a condition where
they can be sold. In that situation, it would be appropriate to add the wages
relating to this work to the cost of sales, together with any materials that
might have been used, e.g. paint or new packaging.
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The full trial balance
So far, only the parts of the trial balance that are relevant to the
statement of profit or loss have been provided. In practice, an accountant
will have the full trial balance and so will need to be able to identify
those items that should be included in the statement of profit or loss
and those that will need to be included in the statement of financial
position, which is a statement showing the assets, liabilities and capital of
the business.
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The issue arises because of how tables are typically structured in financial statements. Traditionally, financial
statements use a three-column format:
1. Description (Category) – Lists revenue, expenses, and other financial components.
2. Amount ($) (Sub-total Column) – Shows individual calculations for each line item.
3. Total Column (Running Total or Final Calculation) – Shows the accumulated amounts after calculations.
The reason the amounts appear on the right instead of in structured drilled-down sections is due to the way I
initially formatted the table. Financial statements should have properly aligned figures under each category.
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