GCSEBusinessAQARevision NotesFinanceAnalysing the Financial Performance of a BusinessUsing the Income Statement

Using the Income Statement (AQA GCSE Business)

Revision Note

Lisa Eades

Expertise

Business Content Creator

Profit Margins

  • Profit margins measure how successfully a business converts revenue into profit

  • Profitability can be measured in two ways:

The gross profit margin

  • The proportion of revenue that is converted into gross profit

  • It is calculated using the formula

Gross space profit space margin space equals space fraction numerator Gross space profit over denominator Revenue end fraction space straight x space 100

Worked Example

Head to Toe Wellbeing’s revenue in 2022 was $124,653. Its gross profit was $105,731

Calculate Head to Toe Wellbeing Ltd’s gross profit margin in 2022. [2 marks]

 Step 1: Substitute the values into the formula

Gross space profit space equals space fraction numerator Gross space profit space over denominator Sales space revenue end fraction space cross times space 100 space space space

equals space fraction numerator $ 105 comma 731 over denominator space $ 124 comma 653 space end fraction equals space space 0.8482 space [1]

Step 2: Multiply the outcome by 100 to find the percentage

equals space 0.8482 space cross times space 100 equals space 84.82 percent sign      [1 mark]

84.82% of Head to Toe Wellbeing’s revenue was converted into gross profit during 2022

The net profit margin

  • The proportion of revenue that is converted into net profit

  • It is calculated using the formula

Net space profit space margin space equals space fraction numerator Net space profit over denominator Revenue end fraction space straight x space 100

Worked Example

Head to Toe Wellbeing’s revenue in 2022 was $124,653. Its net profit was $65,864

Calculate Head to Toe Wellbeing Ltd’s net profit margin in 2022. [2 marks]

Step 1: Substitute the values into the formula

text Net Profit Margin =  end text fraction numerator Profit space Before space Interest space and space Tax over denominator Sales space Revenue end fraction cross times 100

equals space fraction numerator $ 65 comma 864 over denominator $ 124 comma 653 end fraction equals space 0.5284 [1]

Step 2: Multiply the outcome by 100 to find the percentage

equals space 0.5284 space cross times space 100 equals space 52.84 percent sign  [1]

In 2022, 52.84% of Head to Toe Wellbeing’s revenue was converted into profit before interest and tax

  • Profit margins are expressed as percentages

    • This allows comparison of business performance over time and also comparisons with other businesses

Stakeholders and profitability

  • Several stakeholders are interested in profitability

    • Investors look carefully at profitability when deciding which business to invest in

      • The higher the level of profitability, the higher their rewards are likely to be

    • Directors and managers consider profitability when assessing business success and determining future objectives and strategy

    • Employees may consider profitability as justification for requesting higher wages or better working conditions 

Using the Income Statement to Judge Performance

  • Income statements inform managers whether the business is making a profit or loss

    • They allow managers to:

      • Compare performance to previous years

      • Make future forecasts

      • Make comparisons with competitors

  • Finance managers are able to interrogate the data in order to make decisions, make beneficial changes or set new strategic objectives

Case Study

Chillie's Cafe

  • Chillie's Cafe sells cold drinks during the summer season in central Berlin

  • Its two best-selling products are bubble tea and smoothies

Diagram: Extracts from Chillie's Cafe's Income Statement

The income statement contains a range of information that can be used to make decisions and judge performance

The income statement contains a range of information that can be used to make decisions and judge performance

  • Although Chillie's sells bubble tea drinks at a higher price, smoothies are more profitable for the business

    • Fewer bubble tea drinks than smoothies are sold, so revenue is lower

    • The cost of sales of bubble tea are higher than those for smoothies

Questions to Consider when Analysing the Income Statement


If the Business is Making a Profit


If the Business is Making a Loss

  • Is the profit higher or lower than last year?

    • If higher, what has the business done that could have led to this?

      • E.g. Finding a cheaper supplier of raw materials or increasing sales due to a new promotional campaign

    • If lower, why is profit falling? 

      • Have costs increased, such as higher energy bills for the premises, or have sales fallen due to a new competitor entering the market?

  • Is this a short-term or long-term problem?

    • Lower profits may be a result of an external shock affecting all businesses, such as the 2020 Covid pandemic, in which many businesses had to close or reduce working hours

    • Some losses may be more long-term

      • E.g. E-commerce growth has led to many high-street stores closing down as the number of customers has dwindled

  • Is the profit higher or lower than that of competitors?

    • If lower, what can be done to become as profitable as other businesses?

    • E.g. Does the business need to improve the quality of the products or increase the product portfolio?

  • Are competitors making losses?

    • If they are, the business needs to consider whether the industry is changing to the point that it may become extinct

    • Alternatively, it needs to ask tough questions about what can be done to evolve with changing market conditions

Exam Tip

You will not be given the formulas in the exam, so you must ensure that you revise them thoroughly. You are usually asked to state the formula before applying it to a calculation.

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    Lisa Eades

    Author: Lisa Eades

    Lisa has taught A Level, GCSE, BTEC and IBDP Business for over 20 years and is a senior Examiner for Edexcel. Lisa has been a successful Head of Department in Kent and has offered private Business tuition to students across the UK. Lisa loves to create imaginative and accessible resources which engage learners and build their passion for the subject.