"The Trading Account shows the results of buying and selling
of goods. In preparing this account, the general establishment
charges are ignored and only the transactions in goods are
included." -J.R. Satliboi
The income statement is split into two parts.
The first is called the Trading Account and the second the
Profit and Loss Account. The trading account is designed to
show the gross profit on sale of goods. This is achieved by
setting against the net proceeds of sale, the cost of goods
sold. The Trading Account contains, in a summarized form,
the transaction of the trader relating to the commodities
in which he deals, throughout the accounting period. All expenses,
which relate to either purchase of raw material or production
or manufacturing, are charged to the Trading A/c. It is prepared
to find out Gross Profit or Gross Loss. If the sales are more
than purchases and expenses the result is Gross Profit and
vice versa.
In the beginning of the year the businessman
has stock left from the last year. It is called Opening Stock.
The goods remaining unsold this year is called Closing Stock.
While preparing Trading A/c, Opening Stock is added to the
Purchases and Closing Stock is added to the Sales. Trading
A/c shows the Gross Profit or Gross Loss. The businessman
can, with the help of Trading A/c compares the Purchases,
Sales and Closing Stock of the current year with those of
the last years. He can easily find out the ratio of Gross
profit to the Sales and thus control his business expenses.
For a small businessman, Trading Account
serves the purpose of Manufacturing Account as well. But a
big businessman usually has to prepare a separate manufacturing
account. The description of this account will be given at
the appropriate place on pages to follow.
Importance of Preparing Trading Account
Preparation of Trading account serves the following objectives
and provides data for comparison analysis and planning for
future growth. The purposes are:
- It provides information about gross profit. The current
figure can be compared with earlier ones and reasons found
for variations. Accordingly plan can be launched for future
growth of the firm.
- Ratio of gross profit to sales can help the trader to
improve his business administration.
- Ratio of direct expenses to sales will help the trader
to control and rationalize the expenses.
- Comparison of 'stock in hand' of the current year with
those of the previous years. Reasons for variation can be
found out and steps can be taken to adjust things more profitably.
- Ratio of cost of goods sold to total sale proceeds can
help the trader in fixing the prices of his products.
- Precautionary measures can be taken to avoid possible
losses by analyzing the items of direct expenses.
The actual performance shown by the Trading
Account as regards purchases, sales, stock and cost of production
can be compared with the desired performance. In case of weaknesses,
effective corrective measures can be applied. Besides, the
actual performance as disclosed by the Trading Account is
compared with the performance of the previous year. The comparison
shows the plus and minus performance of the business. Such
points should be identified. Minus points should be removed
and plus points should be re-enforced.
Gross Profit disclosed by the Trading Account
tells us the upper limit within which one should keep the
operating expenses of the business besides saving something
for himself. In case of new products, the businessman can
easily fix up the selling price of the products by adding
the cost of purchases, the percentage gross profit that he
would like to maintain. |
Accounts
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