IB Business Management HLTopic 3 — Final AccountsPaper 1, 2 & 3Core skill~11 min read
Reading a Statement of Profit or Loss
This statement tells the story of a whole trading year in about a dozen lines. Start at the top with everything that came in, then work down taking costs off in a fixed order. Learn the order and you can build one from scratch, fill in missing figures, or explain what any line means.
📚 What you need to know
The statement of profit or loss shows income and expenditure over a period of time, usually a year, and works out the profit made.
It is also called the profit and loss account or the income statement. All three names mean the same thing.
It has three parts: the trading account, the profit and loss account and the appropriation account.
Gross profit = sales revenue − cost of sales.
Profit before interest and tax = gross profit − expenses. Then take off interest, then tax.
Retained profit = profit for the period − dividends.
Public limited companies must publish these accounts each year, following IFRS rules so figures can be compared.
The shape of the statement
Everything about this statement is a subtraction. Revenue goes at the top, and each section takes a different type of cost away until you reach the profit the owners actually keep.
Copy this layout out by hand twice and you will remember the order. The order of the lines is worth marks on its own in Paper 2 construction questions.
Part 1: the trading account
The trading account deals only with buying and selling. Cost of sales is what it cost to make or buy the goods that were actually sold — the ingredients, the stock, the wages of the people making the product. Take that off revenue and you get gross profit.
Gross profit tells you whether the product itself makes money. If gross profit is thin, the problem is the price or the cost of the product, not the office electricity bill. That is a useful thing to say in an analysis question.
Part 2: the profit and loss account
Now the running costs of the business come off. Expenses are the indirect costs: rent, salaries, marketing, insurance, utilities. Taking these off gives profit before interest and tax, which is a good measure of how well the business was actually run.
Then two things that are not really about running the business come off:
Interest on money the firm has borrowed. This depends on past financing decisions, not on this year’s trading.
Tax, which the government sets. The firm has no say in the rate.
What is left is profit for the period, sometimes called net profit or profit after tax.
Part 3: the appropriation account
This short final section shows what happens to the profit. Some is paid out to owners as dividends. The rest is kept in the business as retained profit, which is exactly the internal source of finance from earlier in this topic.
For non-profit organisations two changes are made. The word “profit” is replaced by surplus, and because these organisations are usually exempt from corporation tax, the tax line is left out or shown as zero.
WORKED EXAMPLE
Building the statement from raw data
Bright Bean Coffee Ltd reports the following for 2024, in $000: sales revenue 950; cost of sales 410; expenses 315; interest 35; tax 38; dividends 60. Calculate gross profit, profit before interest and tax, profit before tax, profit for the period and retained profit.
Step 1: Gross profit950 − 410 = 540Step 2: Profit before interest and tax540 − 315 = 225Step 3: Profit before tax225 − 35 = 190Step 4: Profit for the period190 − 38 = 152Step 5: Retained profit152 − 60 = 92Retained profit = $92,000work down in order and never skip a line — each answer feeds the next one
WORKED EXAMPLE
Filling in the missing figures
Larkmead Tools Ltd shows sales revenue of $480,000 and gross profit of $186,000. Expenses were $121,000, interest $12,000, tax $11,000 and dividends $15,000. Find the cost of sales and the retained profit.
Step 1: Work backwards for cost of salesGross profit = revenue − cost of sales, so cost of sales = revenue − gross profit.$480,000 − $186,000 = $294,000Step 2: Then work forwards again186 − 121 = 65 (profit before interest and tax)65 − 12 = 53 (profit before tax)53 − 11 = 42 (profit for the period)42 − 15 = 27 (retained profit)Cost of sales $294,000 · Retained profit $27,000missing-figure questions just need the same formula rearranged
Who reads it, and what they look for
Stakeholder
What they are looking for
Shareholders
Profits and dividends, and whether their investment is growing
Employees
Whether the firm can afford pay rises, and whether jobs are secure
Managers and directors
Whether revenue and profit improved, so they can decide what to change
Suppliers
Whether the business will still be trading, and whether to offer trade credit
Government
How much tax is owed, and whether the firm will keep employing people
Local community
Whether the business is stable, and whether it could sponsor local projects
🧩 Constructing a statement in an exam
Write the heading: the name of the business and the period covered.
Put revenue at the top, then work down in the fixed order.
Put costs in brackets so it is obvious they are being taken away.
Show every subtotal: gross profit, profit before interest and tax, profit before tax, profit for the period, retained profit.
Leave out anything that belongs in the balance sheet, such as machinery or loans owed.
💡 Exam tip
Use the exact headings above. Marks are given for correct layout and order, not just correct arithmetic.
Say which period the statement covers. It is a record of a whole year, not a snapshot of one day.
If asked to comment, compare two years. A gross profit that rose while profit for the period fell means expenses or interest grew.
Remember that depreciation is an expense in this statement, so it reduces profit even though no cash leaves the business.
Keep the units consistent. If the statement is in $000, stay in $000 all the way down.
⚠ Common mix-up
Mixing up gross profit and profit for the period. Gross profit is only revenue minus cost of sales. Everything else still has to come off.
Putting expenses in the trading account. Only cost of sales belongs there.
Including assets or loans. Machinery, buildings and borrowings belong in the statement of financial position.
Deducting dividends before tax. Dividends are paid out of profit after tax, in the appropriation account.
Confusing profit with cash. A firm can show a healthy profit and still have an empty bank account.
Forgetting the brackets. Without them a reader cannot tell which figures are being subtracted.
Up next: Reading a Statement of Financial Position — the other half of the final accounts, showing what the business owns and owes on one particular day.
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