Entrepreneurship

Quarter 2 – Module 8
Lesson 1: Computation of Gross Profit
After carefully studying the contents of this module, you should be able to:
 Identify essential components in computing revenues and costs;
 Differentiate between gross profit, operating profit and net profit;
 Interpret financial ratios such as the gross profit rate, operating profit margin and net
profit margin;
 Compute actual revenues;
 Compute actual costs;
 Compute gross profit, operating profit and net profit;
 Compute the gross profit rate, operating profit margin and net profit margin;
 Create profit schedules and reports;
 Appreciate the importance of keeping track with the performance of one’s business
through the correct and honest computation and reporting of business profit; and
 Appreciate the importance of the correct computation and interpretation of financial
ratios gross profit rate, operating profit margin and net profit margin.

Profit is the gross income. The amount of gross profit provides information to the
entrepreneur about revenue earned from sales.
The term cost refers to the purchase price of the product including the total outlay
required in producing it.

The gross profit rate measures the percentage of gross profit to sales, indicating the
profit that the business realizes from the sale of the product.
The gross profit rate of XYZ Trading for the year 2017 is computed as follows:

The gross profit rate may signal to the entrepreneur that the amount of margin on sales
is 21.39%. This rate will be used to determine whether the amount of gross profit can
cover the operating of the business. Since the gross profit rate of XYZ Trading is 21.39%,
the cost ratio to sales will be 78.61%. This information will help the entrepreneur in
assessing whether the cost is too high or too low. Any product with a very high cost will
not become competitive in the market.
The gross profit rate will also help the entrepreneur set the selling price.
Operating Profit Margin Rate
The operating profit margin is the excess of gross profit from operating expenses.

The operating profit margin is the second level of revenue in the income statement. At
this stage, not only is the cost of buying or making the product that has been deducted
is included but also the operating expenses. These are expenses incurred during a
particular period only, and are not expected to provide benefits to any future period. The
operating expenses are also period costs.
In case there are no financing charges like interest, expenses, and income tax, the
amount of the operating profit margin is equal to the net income.

This information states that the business realized an income of P 67,000.00 during the
year after deducting the cost and operating expenses from the sales made.

The operating profit margin of the business measures the percentage of profit available
after deducting the cost of sales and operating expenses of the business. A higher
operating profit margin is favorable to the business.

The income statement is the net profit margin and the third level in the revenue.
The business is only given consideration like interest expense and income tax.
The income statement of XYZ Trading does not reflect any data on interest expense.
Only income tax has been deducted from the operating profit margin.

XYZ Trading appears to have earned 6.39% of its total sales of P734,000 during the year.
This profits rate must be compared with those of other similar businesses within the
industry.
Analyzing the Liquidity Status of the Business
Liquidity Ratios
Current Ratio = Current assets / Current Liabilities
Quick Ratio = (Current Assets – Inventories) / Current Liabilities
Current liabilities= (Cash and Equivalents + Marketable Securities + Accounts
Receivable)

The quick ratio measures its short-term obligations with its most liquid assets and
therefore excludes inventories from its current assets.

Financial statements are important in a company management as a means of

communicating past successes as well as future expectations. The financial statement
records all the operating results such as sales, expenses and profits or losses.

Return of Investment (ROI)

The Return of investment (ROI) measures the amount of net income per peso invested to
the business.

The average total asset is calculated by dividing the sum of the total assets at the
beginning and end of the period.
Yearly increase in revenue is assumed at 5%
Yearly increase in cost is assumed at 5%
As a future entrepreneur, one should always remember that nothing is permanent in the
field of entrepreneurship. What is applicable to one entrepreneur may not be applicable
to another. Certain things may happen to one entrepreneur but may not happen to
another.
Entrepreneurship should be practiced not as a science but as an art. Creativity should
always be applied by an entrepreneur through regularly evaluating the market and the
environment and responding to the changes in them.
The owner of an ordinary small business has the freedom to manage and operate.
Ideally, he/she prefers business activities which are done easily. However, the
entrepreneur has to perform the entrepreneurial activities correctly regardless of
whether they are undertaken easily or not. The importance in entrepreneurship is that
the business activities are performed correctly.