the impact on the statement of profit or loss of a given change

Resources → Subject Notes → Business → Lesson Plan

Cambridge International A‑Level Business (9609) – Impact of a Change on the Statement of Profit or Loss

1. How This Topic Fits Into the Whole Syllabus

The statement of profit or loss belongs to the Finance & Accounting block (Topic 10). Analysing the impact of a change links directly to other syllabus areas:

  • Operations (Topic 4.1/9.1) – production volume, raw‑material costs or efficiency affect Cost of Sales.
  • Marketing (Topic 3.1/8.1) – price changes, promotional spending or sales‑volume shifts affect Revenue and Operating Expenses.
  • Human Resources (Topic 2.1/7.1) – wage rises, training costs or staff numbers alter Operating Expenses.
  • Business Strategy (Topic 6.1/11.1) – strategic decisions (e.g., product‑line expansion) generate multiple line‑item changes.
  • Cross‑cutting skills – ICT for spreadsheet modelling, sustainability (e.g., carbon tax) and ethical implications of cost‑cutting.

2. Purpose of the Statement of Profit or Loss

The profit‑and‑loss account shows a business’s profitability over a period. It:

  • Summarises all income and expenses, allowing internal and external stakeholders to assess performance.
  • Provides the base figures for ratio analysis, budgeting, and investment appraisal.
  • Shows how each element of the business (sales, production, financing, taxation) contributes to the final net profit.

3. Full Statement of Profit or Loss (Required by 10.1.1‑10.1.4)

Line Item (Current Year) Amount (£) Previous Year (Comparative) Notes (What it Represents)
Revenue (Sales)All income from the core business before any deductions.
Cost of Sales (COGS)Variable costs + allocated fixed production overheads.
Gross ProfitRevenue – Cost of Sales.
Operating ExpensesSelling, administrative and distribution costs (e.g., salaries, rent, advertising).
Depreciation (Straight‑line)Non‑cash expense; allocated equally over the asset’s useful life (see 10.1.2).
Operating Profit (EBIT)Gross Profit – Operating Expenses – Depreciation.
Interest ExpenseFinance cost on borrowings; deducted before tax (see 10.1.3).
Exceptional Items (if any)One‑off gains/losses not part of ordinary operations.
Profit Before Tax (PBT)Operating Profit ± Net Finance (interest) ± Exceptional Items.
Tax Expense (percentage of PBT)Calculated on the final PBT figure, after interest and exceptional items (see 10.1.4).
Net Profit (or Net Income)PBT – Tax Expense.
Earnings per Share (EPS)Net Profit ÷ Number of ordinary shares (required for public‑company questions).

4. Depreciation – Straight‑Line (10.1.2)

Depreciation is a non‑cash charge that spreads the cost of a tangible asset over its useful life.

What‑If Box: An asset costing £60,000 is depreciated over 5 years (no residual value).
  • Annual depreciation = £60,000 ÷ 5 = £12,000.
  • If the useful life is extended to 8 years, depreciation falls to £7,500, raising Operating Profit by £4,500 and, after tax (assume 20 %), raising Net Profit by £3,600.

5. Interest Expense (10.1.3)

Interest is a finance cost deducted before tax. It is tax‑deductible, so any change in the interest rate affects both PBT and the tax payable on that PBT.

6. Tax Expense (10.1.4)

Tax is calculated as a percentage of the final Profit Before Tax**.** Remember: tax is never applied to operating profit alone. The tax rate is applied after interest and any exceptional items have been accounted for.

7. Types of Changes and Their Typical Path Through the Statement

Change Directly Affected Line(s) Variable / Fixed? Resulting Down‑stream Impact Syllabus Block (Topic #)
Increase in sales volume (price unchanged) Revenue ↑, Cost of Sales ↑ (variable portion) Variable Gross Profit ↑ (spreads fixed costs), Operating Profit ↑, PBT ↑, Net Profit ↑. Operations 4.1
Increase in unit selling price Revenue ↑ (fixed volume), Cost of Sales (mostly unchanged) Fixed (price) Gross Profit ↑ markedly, all downstream profits ↑ proportionally. Marketing 3.1
Rise in raw‑material cost per unit Cost of Sales ↑ (variable) Variable Gross Profit ↓, Operating Profit ↓, PBT ↓, Net Profit ↓. Operations 4.1
Change in operating overheads (e.g., rent, salaries) Operating Expenses ↑/↓ Fixed (usually) Operating Profit ↓/↑, PBT ↓/↑, Net Profit ↓/↑. Human Resources 2.1
New asset purchase or depreciation method change Depreciation ↑ (new asset) or ↓ (longer life) Fixed (non‑cash) Operating Profit ↓/↑, PBT ↓/↑, Net Profit ↓/↑ (tax follows). Finance 10.1.2
Interest‑rate change on existing loan Interest Expense ↑/↓ Fixed (finance cost) PBT ↓/↑, Net Profit ↓/↑ (tax follows). Finance 10.1.3
Tax‑rate change (government policy) Tax Expense ↑/↓ (applied to PBT) Fixed % Net Profit ↓/↑ directly; other profit figures unchanged. Finance 10.1.4
Exceptional loss (e.g., plant fire) Exceptional Items ↓ One‑off (neither variable nor fixed) PBT ↓, Net Profit ↓ (tax on reduced PBT). Finance 10.1.1

8. Mapping Changes to Specific Syllabus Sub‑topics

Change TypeRelevant Syllabus Sub‑topic
Variable cost increase (raw‑material, labour‑hour)Operations 4.1 – Variable costs & contribution margin
Price rise or discountMarketing 3.1 – Pricing strategies & revenue impact
Fixed overhead change (rent, salaries)Human Resources 2.1 – Fixed operating costs
Depreciation change (asset life, new asset)Finance 10.1.2 – Straight‑line depreciation
Interest‑rate changeFinance 10.1.3 – Finance costs and tax‑deductibility
Tax‑rate changeFinance 10.1.4 – Tax calculation on PBT
Exceptional item (fire, legal settlement)Finance 10.1.1 – Non‑operating items

9. Step‑by‑Step Worked Example

Scenario: A company sells 10 000 units at £20 each. Variable cost per unit is £12. Fixed production overheads = £30 000. Operating expenses = £40 000. Depreciation = £5 000. Interest expense = £3 000. Tax rate = 20 %.

  1. Base figures (Year 0)
    • Revenue = 10 000 × £20 = £200 000
    • Variable Cost = 10 000 × £12 = £120 000
    • Cost of Sales = £120 000 + £30 000 = £150 000
    • Gross Profit = £200 000 – £150 000 = £50 000
    • Operating Profit = £50 000 – £40 000 – £5 000 = £5 000
    • PBT = £5 000 – £3 000 = £2 000
    • Tax = 20 % × £2 000 = £400
    • Net Profit = £2 000 – £400 = £1 600
  2. Change: Selling price rises by 10 % to £22; variable cost stays £12; everything else unchanged.
  3. Re‑calculation (Year 1)
    • Revenue = 10 000 × £22 = £220 000
    • Cost of Sales = £120 000 + £30 000 = £150 000
    • Gross Profit = £220 000 – £150 000 = £70 000
    • Operating Profit = £70 000 – £40 000 – £5 000 = £25 000
    • PBT = £25 000 – £3 000 = £22 000
    • Tax = 20 % × £22 000 = £4 400
    • Net Profit = £22 000 – £4 400 = £17 600
  4. Impact Summary
    ItemYear 0 (£)Year 1 (£)Change
    Revenue200 000220 000+10 %
    Cost of Sales150 000150 0000 %
    Gross Profit50 00070 000+40 %
    Operating Profit5 00025 000+400 %
    Profit Before Tax2 00022 000+1 000 %
    Net Profit1 60017 600+1 000 %

10. Linking the Change Analysis to Other Syllabus Topics

Syllabus BlockExample of a ChangeImpact on Profit & Loss
Operations (Topic 4.1) New technology reduces variable cost from £12 to £10 per unit. Cost of Sales falls → Gross Profit ↑ → all downstream profits ↑.
Marketing (Topic 3.1) Launch of a high‑margin product: extra revenue £80 000, advertising £15 000. Revenue ↑, Operating Expenses ↑; net effect depends on contribution margin of the new product.
Human Resources (Topic 2.1) 5 % pay rise for staff. Operating Expenses ↑ → Operating Profit ↓ → Net Profit ↓ (after tax).
Business Strategy (Topic 6.1) Outsource logistics: save £20 000 fixed rent but incur £5 000 logistics fee per month (£60 000 per year). Operating Expenses ↓ (fixed) but ↑ (variable); net effect calculated by comparing total annual change.
Finance (Topic 10.1.3) Refinance loan: interest rate falls from 5 % to 3 % on a £100 000 loan. Interest Expense ↓ → PBT ↑ → Net Profit ↑ (tax follows).
Cross‑cutting (Sustainability/CSR) Carbon tax of £2 per unit produced. Variable cost ↑ → Cost of Sales ↑ → Gross Profit ↓ → Net Profit ↓.

11. Extension – Ratio Analysis After a Change (10.4)

After recalculating the profit‑and‑loss account, students should be able to comment on profitability ratios. Two useful examples:

  • Gross Profit Margin = Gross Profit ÷ Revenue.
    In the worked example the margin rises from 25 % (50 000 ÷ 200 000) to 31.8 % (70 000 ÷ 220 000), indicating improved efficiency.
  • Net Profit Margin = Net Profit ÷ Revenue.
    It increases from 0.8 % to 8.0 %, showing a far stronger bottom‑line performance after the price rise.

Students can briefly state whether the change has been “favourable” or “unfavourable” for each ratio and why.

12. ICT & Spreadsheet Modelling Tip (6.1.7)

Create a spreadsheet with the full profit‑and‑loss template. Use input cells for the variables that may change (price, volume, variable cost, fixed overheads, interest rate, tax rate). Apply formulas so that a single change automatically updates every downstream figure. This mirrors the exam requirement to “show the effect of a change” efficiently and reduces arithmetic errors.

13. Quick Exam Checklist – “Impact of a Change” Questions

  1. Read the question carefully. Identify the exact variable that changes (price, volume, cost per unit, overhead, interest, tax, exceptional item).
  2. Classify the change. Variable (depends on output) or Fixed (independent of output).
  3. Locate the directly affected line item(s). Write the new figure in the appropriate cell of your profit‑and‑loss table.
  4. Re‑calculate sequentially. Follow the chain: Revenue → Cost of Sales → Gross Profit → Operating Expenses → Depreciation → Operating Profit → Interest → PBT → Tax (on final PBT) → Net Profit.
  5. State the result. Provide the new figure and, where required, the percentage change or contribution to profit margin.
  6. Interpret. Explain why the profit changed (e.g., “the price increase raised the contribution margin, spreading fixed costs over the same volume”).

14. Practice Questions (All with Mark‑Scheme Tips)

QuestionKey Skills Tested
Q1. A firm’s sales increase by 15 % while its variable cost per unit remains unchanged. Fixed production overheads are £40 000 and operating expenses are £25 000. Calculate the new net profit and state the percentage change in net profit. (Tax = 25 %). Variable‑cost calculation, spreading of fixed costs, percentage change.
Q2. The company in Q1 decides to introduce a new machine costing £60 000, depreciated straight‑line over 5 years with no residual value. Show the impact on operating profit and net profit (assume no change in other items). Depreciation addition, effect on operating profit, tax impact.
Q3. Interest on a loan falls from 8 % to 5 % on a £200 000 overdraft. The current interest expense is £16 000. Calculate the new interest expense, the resulting change in PBT and net profit (tax rate 30 %). Finance‑cost adjustment, effect on PBT and tax‑adjusted net profit.
Q4. A carbon tax of £3 per unit is introduced. The firm produces 12 000 units a year. Show the effect on Cost of Sales, Gross Profit, and Net Profit (use the Year 0 figures from the worked example; tax rate 20 %). Variable cost increase, downstream impact, tax calculation.
Q5. After a 10 % price increase, the firm’s gross profit margin rises from 25 % to 32 %. Explain, using the profit‑and‑loss account, why the margin improves. Interpretation, linking margin change to revenue and cost behaviour.

Create an account or Login to take a Quiz

30 views
0 improvement suggestions

Log in to suggest improvements to this note.