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ACCOUNTING BACKGROUND
Do not be alarmed from the accounting heading, this section
is not intended make you an accountant but merely to introduce you to some very basic
accounting fundamentals.
Income Statement
In order to evaluate any business in retail we need to understand how to review and set-up a basic
income statement, the simplest income statement can be seen below:
| + Net Sales |
$ 500,000 |
| - Cost of Goods Sold |
$ 350,000 |
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| Gross Profit |
$ 150,000 |
| - Expenses |
$ 100,000 |
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| Net Profit |
$ 50,000 |
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- Net Sales on the income statement
represents the total amount received from your customers, i.e. the
total amount in the cash register, this is the amount on the first
line, $ 500,000.
- Cost of Goods Sold represents the value
of your inventory, in other words how much you paid your vendors
for the inventory plus freight, this is the amount on the second
line, $350,000.
- Gross Profit equals (Net Sales) – (Cost
of Goods Sold) or sometimes it is called maintained margin, this
is represented on the third line, $ 150,000.
- Expenses are the sum of all of your
operating expenses in the store, things like rent, utilities,
salaries and is represented by the amount on the fourth line,
$100,000.
- Net Profit is (Gross Profit) – (Expenses), this number will be your bottom line,
if it is positive you are making money and your business is healthy otherwise something
is wrong, in the example above a $50,000 Net Profit on a business of 500,000 i.e.
the profit is 10% of sales.
Expenses can kill a business you need to keep them under control in order to survive
in the market place. Expenses can be broken down into two main categories:
Fixed expenses do not vary, they are fixed no matter how much or how little business you do,
examples of this are store rent, you will always need to pay that no matter how many customers
walk-in your store. On the other hand variable expenses vary by the volume of sales, the more
sales you do the more you have of theses expenses, for example staffing. If you do more business
your are going to need more staff to meet the demand and your staffing expenses will go up. The
following expenses are typical of the retail industry:
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| Rent |
Amount paid to the landlord |
| Staffing |
Amount paid to your employees |
| Utilities |
Amount paid for AC, heating, water |
| Insurance |
Amount paid for insuring the store |
| Telephone |
Amount paid long distance calls and faxes |
| Franchise Royalty |
Amount paid to franchise company |
| Store Supplies |
Amount paid for cleaning fluids |
| Advertising [1] |
Amount paid for promoting your business |
| Depreciation |
Lost value of assets because of aging |
| Legal |
Amount paid for lawyers |
| Professional Services |
Amount paid for example to accountants |
| Bank Loan Interest |
Interest paid for banks loans |
| Computers |
Amount paid for computer software etc |
| Staff Motivation |
Amount paid to keep the morale high |
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Pro Forma Profit and Loss Statement
If you are thinking of setting-up a new business or buying an
existing business it is a very good idea to prepare a pro-forma profit and loss statement.
This is a profit and loss statement that you prepare in advance of setting-up your business
to determine if your business makes financial sense. Preparing a pro forma profit and loss
statement will take a lot of guesswork and time, however.
The most important line in a pro-forma profit and loss statement is the Net Sales figure,
the following list of questions will help you arrive to guess the Net Sales figure:
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Average price of an item in the
store
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$ 15
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Average number of items customer
purchases
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1
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Average number of customers visiting
store daily?
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100
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| Days in a year the store will be open ? |
355
Days
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After you have made your best guess and answered the above questions,
just multiply all the numbers to get the Net Sales figure:
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| Net Sales |
= 15 * 1 * 100* 355 = $ 532500 |
| | [1] If you operate a franchise you might have to pay the franchise
company a certain amount each month for adverting.
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