Key Business Terms: Profit, Loss, Costs & Revenue

Key Business Terms

• Profit is the financial gain when total revenue exceeds total costs.
• Loss occurs when total costs are more than total revenue.
• Revenue is the total money earned from selling goods/services.
• Costs are the total amount spent to produce goods/services.
• Fixed Costs do not change with production levels, examples include rent, salaries, and insurance.
• Variable Costs vary with production levels, like raw materials, electricity, and wages.
• Expenses are costs incurred in running a business, for example marketing, transportation, and administration.
• Cost Price (CP) is the amount a seller pays to purchase/produce an item.
• Selling Price (SP) is the amount a customer pays to buy a product.
• Loan term is the duration agreed upon for repaying a loan, ranging from short-term (a few months) to long-term (years/decades).

Calculating Profit and Loss

• Profit can be calcualted using the formula Profit = Revenue - Total Costs
• If a business has revenue of ₱50,000 and spends ₱30,000, the profit is ₱20,000: Profit = 50,000 - 30,000 = 20,000.

Net Price and Trade Discounts

• Net price is the final price after all discounts are applied.
• Trade discount is a price reduction given to a buyer by a seller, often for bulk purchases or business agreements.
• List price is the original price of a product before discounts.

Trade Discount Formulas

• Net Price = List Price - (List Price * Trade Discount Rate)
• Trade Discount = List Price * Trade Discount Rate
• List Price = Net Price / (1 - Trade Discount Rate)
• Trade Discount Rate = 1 - (Net Price / List Price)

Trade Discount Example

• A furniture store buys a sofa with a list price of ₱5,000, the manufacturer offers a 20% trade discount.
• Trade Discount = List Price * Trade Discount Rate = ₱5,000 * 0.20 = ₱1,000.
• Net Price = List Price - Trade Discount = ₱5,000 - ₱1,000 = ₱4,000.

Types of Financial Statements

• Balance Sheet is a snapshot of what a company owns and owes at a specific time.
• Statement of Cash Flows shows where the company's cash comes from and how it is spent.
• Income Statement is a summary of earnings and expenses showing profit or loss over a period.
• Statement of Retained Earnings shows how much profit the company has kept after paying dividends.

Closing Entries

• Closing entries are used to transfer balances of temporary accounts (revenues, expenses, drawings) to a permanent account (owner's capital account).

Types of Companies

• Finance companies provide loans, credit, and other financial services.
• Leasing companies rent out assets like equipment, vehicles, or property for a specific time.
• Trade companies are involved in buying and selling goods or services.
• Trade debtors are customers who owe money for goods/services purchased on credit.

Types of Finances

• Internal finance refers to funds generated from the business's own operations, not external sources.
  • Retained Earnings: Profits reinvested instead of being paid out as dividends.
  • Asset Disposal: Selling surplus or unused assets to generate funds.
• External finance comes from outside the business.
  • Bank Loans: Money borrowed from banks that has to be repaid with interest.

Other Important Terms

• Break-even point is the sales level where total revenue equals total costs, with no profit or loss.
• Insolvency is where a business can't meet debt obligations, due to lack of cash flow.
• Start-up stage is the early phase when a business starts operations, generally with costs high and sales low.
• Profit point is the informal sales level at which a business begins to make a profit, meaning sales beyond the break-even point.

Types of Capital

• Equity Capital is funds raised from owners/shareholders by issuing shares and retaining profits, representing the owners' stake.
• Debt Capital is funds borrowed from external sources like banks or bonds, which must be repaid with interest and does not dilute ownership.
• Working Capital is the difference between current assets and current liabilities, which represent funds available for day-to-day operations and short-term obligations.
• Fixed Capital is funds used for long-term investments in physical assets (machinery, equipment, property) for production capacity and long-term growth.
• Venture Capital: Investment funds from venture capitalists for business start-ups with high high growth potential often comes with mentorship and strategy.

Financial Statements and Adjustments

• A financial statement is a formal record of a company’s financial activities, providing a summary of its position and performance over a specific period.
• Adjusting entries ensure financial statements follow the accrual basis of accounting at the end of the accounting period.
  • Recording Accruals: Adjust revenues/expenses earned or incurred but not yet recorded (accrued salaries, interest).
  • Recognizing Deferrals: Allocate prepaid expenses (prepaid rent) and unearned revenues to the correct periods.
  • Updating Depreciation: Record depreciation expense for long-term assets.
  • Correcting Errors: Fix mistakes in financial records before preparing financial statements.

Financial Reports & Statements

• Income Statement measures a company's performance over a specific period by detailing revenues, expenses, and net income/loss.
• Balance Sheet is a financial statement listing assets, liabilities, and equity at a specific time without measuring performance over a period.
• Trial Balance is an internal report listing ending balances of ledger accounts to ensure total debits equal total credits, used in the accounting process.

Simple Interest

• Simple interest is the method of calculating the interest amount earned or paid by a principle sum of money at a fixed rate.
• Simple Interest can be calculated using the formula SI = P x r x t, where:
  • SI = Simple Interest
  • P = Principal (original amount of money)
  • r = Annual interest rate (as a decimal)
  • t = Time in years
• To calculate the annual interest rate (r), use the formula R = I / (P x T)
• If you deposit ₱10,000 in a bank at 5% annual interest rate for 3 years, the simple interest is: SI = ₱10,000 x 0.05 x 3 = ₱1,500.

Practice questions for simple interest

• Investing ₱8,000 at 7% for 3 years yields ₱1,680 in simple interest.
• A ₱25,000 loan with ₱5,000 simple interest at 4% annual interest takes 5 years to repay.
• Earning ₱3,600 in simple interest over 6 years at 6% annual rate requires a principal investment of ₱10,000.
• An investment of ₱30,000 earning ₱9,000 in simple interest over 5 years has an annual interest rate of 6%.

Assets, Liabilities, and Equity

• Assets are owned items with value that can generate income.
  • Assets = Liabilities + Equity
• Liabilities are obligations to others that must be settled in the future.
  • Liabilities = Assets - Equity
• Equity represents the owner's claim on the company's assets after paying liabilities, or "net worth".
  • Equity = Assets - Liabilities
• For example, if XYZ Company has ₱950,000 in assets and ₱400,000 in liabilities, the owner's equity is ₱550,000, via the calculation Equity = ₱950,000 - ₱400,000.

Cost of Goods Sold

• A cost of goods sold (COGS) references direct costs associated with producing or purchasing good during a specific period.
• COGS includes, materials, labor, and purchases but not rent, marketing, or other indirect costs.
  • COGS = Beginning Inventory + Purchases - Ending Inventory
• Calculating COGS for a bakery that starts with ₱5,000 in ingredients, buys ₱3,000 more, and has ₱2,000 left: COGS = ₱5,000 + ₱3,000 - ₱2,000 = ₱6,000.

Markup, Markdown and Selling Price

• Markup is the amount added to the cost price to determine the selling price.
• Markdown is the reduction in the original price to attract customers or clear inventory.
• Selling price is the final price a customer pays after markup or markdown.
• Markup/Markdown calculations:
  • Markup = Selling Price - Cost Price
  • Markdown = Original Price - New Price
  • Selling Price = Cost Price + Markup or Selling Price = Original Price - Markdown
  • Markup/Markdown Percentage = (Markup/Markdown Price / Cost Price) x 100%
• A ₱1,000 jacket reduced to ₱800 has a markdown rate of 20%.
• A bag bought for ₱800 and sold for ₱1,200 has a markup percentage of 50%.
• A table bought for ₱1,500 with a 20% markup sells for ₱1,800. This is because: Selling Price = ₱1,500 + (20/100 x 1,500) = ₱1,800.

Inventory Shrinkage

• Inventory shrinkage is the loss of inventory when actual stock is less than recorded stock due to theft, damage, fraud, or errors.
  • Shrinkage = Recorded Inventory - Actual Inventory
  • Shrinkage Percentage = (Shrinkage/Recorded Inventory) x 100.
• For a warehouse with ₱500,000 recorded inventory but ₱480,000 actual inventory, the shrinkage percentage is 4%.
• A retail shop with ₱8,000 inventory shrinkage and ₱160,000 recorded inventory has a 5% shrinkage percentage.

Break-Even Point (BEP)

• Break-Even Point (BEP) is the sales level where total revenue equals total costs, resulting in no profit/loss.
  • BEP (units) = Fixed Costs / (Selling Price per Unit - Variable Cost per Unit)
• With ₱60,000 fixed costs, ₱500 selling price per unit, and ₱300 variable cost per unit, the break-even point is 300 units.
  • BEP = 60,000 / (500-300) = 300

Net Income and Profit Margin

• Net income is the total amount a company earns after deducting all expenses from revenue, also called profit or bottom line.
  • Net Income = Total Revenue - Total Expenses
• ₱500,000 revenue with ₱350,000 expenses results in ₱150,000 net income: Net Income = 500,000 - 350,000 = 150,000
• Profit margin shows what percentage of a company's revenue turns into profit after deducting expenses.
  • Profit Margin = (Net Income / Revenue) x 100
• A company with a 30% profit margin and ₱750,000 total revenue has a net income of ₱225,000.

Profit and Loss Percentage

• Profit Percentage measures how much profit a business makes in relation to its cost or selling price, in percentage terms.
  • Profit Percentage (based on Cost Price) = (Profit / Cost Price) x 100
  • Profit Percentage (based on Selling Price) = (Profit / Selling Price) x 100
• A bicycle bought for ₱6,000 and sold for ₱7,500 yields a 25% profit percentage. Profit =7,500-6,000 = ₱1,500, then Profit Percentage = (1,500/6,000) * 100= 25%.
• A business reporting a ₱120,000 net income on ₱400,000 total revenue has a 30% profit margin.
• A smartphone costing ₱30,000 sold with a 20% profit has a selling price of ₱36,000.
• A book bought for ₱300 and sold at a 10% loss has a selling price of ₱270.

Loss Percentage

• A bag bought for ₱1,200 and sold for ₱1,080 has a 10% loss percentage: Loss = ₱1,200 - ₱1,080 = ₱120; Loss Percentage = (120/1,200) x 100 =10%.

Types of Taxes

• Income Tax is typically paid on salary, business earnings, or investments.
• Property Tax is often levied on land and any realestate ownership
• Corporate Tax is paid by businesses on their profits
• Value-Added Tax (VAT) is added to the price of goods and services.
• Excise Tax is levied on specific goods like alcohol, tobacco, and fuel.

Depreciation

• Depreciation is the reduction in an asset's value over time due to wear, obsolescence, or usage. It is used to allocate the cost of an asset over its useful life.
• A laptop costing P50,000 and depreciating by 10% per year will show a depreciation expense for the second year that is lower than prior years
• A machine with a book value of P120,000 and depreciating by 15% per year using the declining balance method can calculate depreciation totals per year using teh book value less 15%.

Credit Types

• Credit represents the ability to borrow money or get goods/services with a promise to pay later.
• Revolving Credit allows repeated borrowing up to a limit (e.g., credit cards).
• Installment Credit involves fixed payments over time (e.g., car loans, mortgages).
• Trade Credit is business-to-business (B2B) involving the receipt of goods/services before payment.
• Service Credit refers to the time an employee has worked counting toward things like a pension, retirement, or any leave privileges to any company or government body.