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Difficulty: MediumProfit and Loss Account and Net Profit Determination

At the end of an accounting period, a sole trader reported a Gross Profit of N180,000\text{N}180,000 and received discounts totaling N2,500\text{N}2,500. A review of the business transactions and adjustments reveals the following:

- Rent paid of N24,000\text{N}24,000 included N4,000\text{N}4,000 paid in advance for the next period.
- Accrued electricity charges at year-end amounted to N3,000\text{N}3,000.
- The provision for doubtful debts is to be increased from N5,000\text{N}5,000 to N7,000\text{N}7,000.
- A new office computer purchased on credit for N10,000\text{N}10,000 was erroneously recorded in the general office expenses account.

Based on the information above, what is the correct Net Profit for the year?

  1. N157,500\text{N}157,500Answer
  2. B
    N147,500\text{N}147,500
  3. C
    N149,500\text{N}149,500
  4. D
    N152,500\text{N}152,500

Answer

The correct Net Profit for the year is N157,500\text{N}157,500.
The net profit is calculated by taking total income (Gross Profit of N180,000\text{N}180,000 plus Discount Received of N2,500=N182,500\text{N}2,500 = \text{N}182,500) and subtracting total operating expenses. Adjusted Rent is N20,000\text{N}20,000 (after deducting the N4,000\text{N}4,000 prepayment), Electricity accrued is N3,000\text{N}3,000, and the Increase in Provision for Doubtful Debts is N2,000\text{N}2,000 (N7,000−N5,000\text{N}7,000 - \text{N}5,000). The office computer cost of N10,000\text{N}10,000 is a capital expenditure item and is excluded from expense calculations. Subtracting total expenses of N25,000\text{N}25,000 from total income yields N157,500\text{N}157,500.

Step-by-Step Solution

1
Calculate total gross income
Gross Profit+Discount Received=N180,000+N2,500=N182,500\text{Gross Profit} + \text{Discount Received} = \text{N}180,000 + \text{N}2,500 = \text{N}182,500
Discount received is revenue income and must be added to gross profit in the Profit and Loss Account.
2
Adjust individual expense accounts
Rent: N24,000−N4,000=N20,000\text{N}24,000 - \text{N}4,000 = \text{N}20,000; Electricity: N3,000\text{N}3,000; Provision Increase: N7,000−N5,000=N2,000\text{N}7,000 - \text{N}5,000 = \text{N}2,000
Prepayments must be subtracted from payments made, accrued expenses added, and only the net increase in provision for doubtful debts charged as an expense. Capital expenditure (computer) must be excluded entirely from operating expenses.
3
Compute Net Profit
Total Income−Total Operating Expenses=N182,500−(N20,000+N3,000+N2,000)=N157,500\text{Total Income} - \text{Total Operating Expenses} = \text{N}182,500 - (\text{N}20,000 + \text{N}3,000 + \text{N}2,000) = \text{N}157,500
Deduct total revenue expenses from total gross income to determine net profit.

Key Concept

Determination of Net Profit incorporating adjustments for accruals, prepayments, provision increases, and capital expenditure misclassifications.
Estimated Time:1m 30s
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Topics

Profit and Loss Account and Net Profit Determination

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