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be assigned a value or cost。 The accounting principle that governs profit
is known as the ‘matching principle’； which means that ine and expenditure
are matched to the time period in which they occur。 （Look back
to earlier in the chapter where realization and accruals are explained。）
Table 1。5 Un…audited condensed cash…flow statement for Straight Plc （for the 6 months ended 30 June 2007）
Half year to
30 June 2007
Half year to
30 June 2006
Year
31 Dec 2006
￡’000 ￡’000 ￡’000
Net cash flows from operating activities 2；242 3；879 1；171
Cash flows from investing activities
Purchases of property； plant and equipment （603） （464） （701）
Proceeds from sale of property； plant and equip 345 – –
Purchase of intangible assets （55） （87） （193）
Purchase of investments （35） – –
Interest received 28 58 107
Net cash used in investing activities （320） （493） （787）
Cash flows from financing activities
Dividends paid （310） （283） （422）
Proceeds from issue of shares 13 – 128
Net cash used in financing activities （297） （283） （294）
Net increase in cash and cash equivalents 1；625 3；103 90
Cash and cash equivalents at beginning of period 2；126 2；036 2；036
Cash and cash equivalents at the end of period 3；751 5；139 2；126
30 The Thirty…Day MBA
So for High Note the profit and loss account for the first six months would
be as shown in Table 1。6。
The structure of the profit and loss statement
This account is set out in more detail for a business in order to make it more
useful when it es to understanding how a business is performing。 For
example； although the profit shown in our worked example is ￡8；700； in
fact it would be rather lower。 As money has been borrowed to finance cash
flow there would be interest due； as there would be on the longer…term loan
of ￡10；000。
In practice we have four levels of profit：
。 Gross profit is the profit le。。 a。。er all costs related to making what you
sell are deducted from ine。
。 Operating profit is what’s le。。 a。。er you take away the operating
expenses from the gross profit。
。 Profit before tax is what is le。。 a。。er deducting any financing costs。
。 Profit a。。er tax is what is le。。 for the owners to spend or reinvest in the
business。
For High Note this could look much as set out in Table 1。7。
A more substantial business than High Note will have taken on a wide
range of mitments。 For example； as well as the owner’s money； there
may be a long…term loan to be serviced （interest and capital repayments）；
parts of the workshop or offices may be sublet； generating ‘non…operating
Table 1。6 Profit and loss account for High Note for the six months Apr–
Sept
￡ ￡
Sales 60；000
Less cost of goods to be sold 30；000
Gross profit 30；000
Less expenses：
Heat； electric； telephone； internet etc 6；000
Wages 6；000
Advertising 9；300
Total expenses 21；300
Profit before tax； interest and depreciation charges 8；700
Accounting 31
ine’； and there will certainly be some depreciation expense to deduct。
Like any accounting report； it should be prepared in the best form for the
user； bearing in mind the requirements of the regulatory authorities。 The
elements to be included are：
1。 sales （and any other revenues from operations）；
2。 cost of sales （or cost of goods sold）；
3。 gross profit – the difference between sales and cost of sales；
4。 operating expenses – selling； administration； depreciation and other
general costs；
5。 operating profit – the difference between gross profit and operating
expenses；
6。 non…operating revenues – other revenues； including interest； rent； etc；
7。 non…operating expenses – financial costs and other expenses not directly
related to the running of the business；
8。 profit before ine tax；
9。 provision for ine tax；。
10。 net ine （or profit or loss）。
Profit and loss spreadsheet
There is an online spreadsheet at SCORE’s website （score 》
Business Tools 》 Template Gallery 》 Profit and Loss）。 Download in Excel
format and you have a profit and loss account with 30 lines of expenses； the
headings of which you can change or delete to meet your particular needs。
Table 1。7 High Note extended profit and loss account
￡s
Sales 60；000
Less the cost of goods to be sold 30；000
Gross profit 30；000
Less operating expenses 21；300
Operating profit 8；700
Less interest on bank loan and overdra。。 600
Profit before tax 8；100
Less tax 1；827
Profit a。。er tax 6；723
32 The Thirty…Day MBA
THE BALANCE SHEET
A balance sheet is a snapshot picture at a moment in time。 On the one hand
it shows the value of assets （possessions） owned by the business and； on
the other； it shows who provided the funds with which to finance those
assets and to whom the business is ultimately liable。
Assets are of two main types and are classified under the headings
of either fixed assets or current assets。 Fixed assets e in three forms。
First； there are the hardware or physical things used by the business itself
and which are not for sale to customers。 Examples of fixed assets include
buildings； plant； machinery； vehicles； furniture and fi。。ings。 Next e
intangible fixed assets； such as goodwill； intellectual property etc； and these
are also shown under the general heading ‘fixed assets’。 Finally there are
investments in other businesses。 Other assets in the process of eventually
being turned into cash from customers are called current assets； and include
stocks； work in progress； money owed by customers and cash itself。
Total assets = Fixed assets ＋ Current assets
Assets can only be bought with funds provided by the owners or borrowed
from someone else； for example bankers or creditors。 Owners provide funds
by directly investing in the business （say； when they buy shares issued by
the pany） or indirectly by allowing the pany to retain some of
the profits in reserves。 These sources of money are known collectively as
liabilities。
Total liabilities = Share capital and reserves ＋ Borrowings and other creditors
Borrowed capital can take the form of a long…term loan at a fixed rate of
interest or a short…term loan； such as a bank overdra。。； usually at a variable
rate of interest。 All short…term liabilities owed by a business and due for
payment within 12 months are referred to as creditors falling due within
one year； and long…term indebtedness is called creditors falling due a。。er
one year。
So far in our High Note example； the money spent on ‘capital’ items
such as the ￡12；500 spent on a puter and fixtures and fi。。ings have
been ignored； as has the ￡9；108 worth of sheet music etc remaining in
stock waiting to be sold and the ￡12；000 of money owed by customers who
have yet to pay up。 An assumption has to be made about where the cash
deficit will be made up； and the most logical short…term source is a bank
overdra。。。
For High Note at the end of September the balance sheet is set out in
Table 1。8。
Accounting 33
Balance sheet structure
The layout of the balance sheet using UK accounting rules is something of
a jumble； with assets and liabilities intermingled。 In the United States the
balance sheet is traditionally set out horizontally； with the assets on one
side and the liabilities on the other。
Table 1。8 High Note balance sheet at 30 September
￡ ￡
Assets
Fixed assets
Fixtures； fi。。ing； equipment 11；500
puter 1；000
Total fixed assets 12；500
Working capital
Current assets
Stock 9；108
Debtors 12；000
Cash 0
21；108
Less current liabilities （creditors falling due
within one year）
Overdra。。 4；908
Due to suppliers 0
4；908
Net current assets
＇Working capital （CA…CL）＇ 16；200
Total assets less current liabilities 28；700
Less creditors falling due a。。er one year
Long…term bank loan 10；000
Net total assets 18；700
Capital and reserves
Owner’s capital introduced 10；000
Profit retained （from P&L account） 8；700
Total capital and reserves 18；700
34 The Thirty…Day MBA
Working capital
You will also have noticed in this example that the assets and liabilities
have been jumbled together in the middle to net off the current assets
and current liabilities and so end up with a figure for the working capital。
‘Current’ in accounting means within the trading cycle； usually taken to be
one year。 Stock will be used up and debtors will pay up within the year；
and overdra。。 being repayable on demand also appears as a short…term
liability。
There are a number of other items not shown in the working capital
section of the example balance sheet that should appear； such as liability
for tax and VAT that have not yet been paid； and these should appear as
current liabilities。
Intangible fixed assets
There are a number of seemingly invisible items that nevertheless have
been acquired for a measurable money cost and so have to be accounted for：
。 Goodwill： This is where the price paid for an asset is above its fair
market price。 This is fairly mon in the case of acquisitions where
petition for a pany can push prices higher。
。 Intellectual property such as patents； copyright； designs and logos。
These items too are amortized over their working life。 So； for example； if a
patent is considered to have a 10…year life and cost ￡1 million to acquire； it
would be wri。。en down in the accounts by ￡100；000 a year。
Liverpool Football Club’s accounts （Table 1。9） show how a particular
type of ‘intellectual’ property is dealt with。 In this case it is footballers
being contracted in and out of the club。 The same principles apply to any
intangible asset。
The costs associated with the acquisition of players’ registrations are
capitalized as intangible fixed assets。 These costs are fully amortized in
equal instalments over the period of players’ initial contracts。 Where a
player’s contract is extended beyond its initial period； amortization is
calculated over the period of the extended contract from the date on which
it is signed。 Players’ registrations are wri。。en down for impairment when
the carrying amount exceeds the amount recoverable through use or sale。
Accounting for stock
Deciding on the stock figure to put into a balance sheet is a tricky calculation。
Theoretically it is simple； a。。er all； you know what you paid for
it。 The rule that stock should be entered in the balance sheet at cost or
Accounting 35
market…price； whichever is the lower； is also not too difficult to follow。 But
in the real world a business keeps on buying in stock so it has product to
sell； and the cost can vary every time a purchase is made。
Take the example of a business selling a breakfast cereal。 Four pallets
of cereal are bought in from various suppliers at prices of ￡1；000； ￡1；020；
￡1；040 and ￡1；060 respectively； a total of ￡4；120。 At the end of the period
three pallets have been sold； so logically the cost of goods sold in the profit
and loss account will show a figure of ￡3；060 （￡1；000 ＋ ￡1；020 ＋ ￡1；040）。 The
last pallet costing ￡1；060 will be the figure to put into the balance sheet；
thus ensuring that all ￡4；120 of total costs are accounted for。
This method of dealing with stock is known as FIFO （first in first out）；
for obvious reasons。 There are two other popular costing methods that
have their own merits。 LIFO （last in first out） is based on the argument that
Table 1。9 Part of the balance sheet for Liverpool Football Club and Athletic
Grounds Plc
2006 2005
￡’000 ￡’000
Fixed assets
Intangible assets （see note 10） 81；350 80；105
Tangible assets 34；947 36；811
Investments 3 3
Total 116；300 116；919
Note 10。 Intangible fixed assets
Cost
At 1 August 2005 134；706
Additions in year 41；753
Disposals in year （36；868）
At 31 July 2006 139；591
Amortisation
At 1 August 2005 54；601
Charge for year 24；636
Impairments in year 5；250
Disposals in year （26；246）
At 31 July 2006 58；241
Net book amount
At 31 July 2006 81；350
At 31 July 2005 80；105
36 The Thirty…Day MBA
if you are staying in business you will have to keep on replacing stock at
the latest （higher） price； so you might just as well get used to that sooner
by accounting for it in your profit and loss a