P&L Statement

We learned about a company’s sales in the previous chapter. As we continue our discussion of the profit and loss statement, we will now take a closer look at the expense side of the P&L statement and its accompanying notes in this chapter. Generally, expenses are categorized based on their purpose, often known as the cost of sales technique, or based on the expense type. The profit and loss statement or the notes must include an analysis of the expenses. The extract below shows that practically every line item has a note attached to it.

The first line item on the expense side is ‘Cost of materials consumed’; this is invariably the raw material cost that the company requires to manufacture finished goods. As you can see, the cost of raw material consumed/raw material is the company’s largest expense. This expense stands at Rs.2101 Crs for FY14 and Rs.1760 Crs for FY13. Note number 19 gives the associated details for this expense; let us inspect the same.

As you can see, note 19 provides information about the substance consumed. Lead, lead alloys, separators, and other products totaling Rs. 2101 Cr. are used by the company.

Purchases of Stock in Trade and Change in Inventories of Finished Goods, Work-in-Process, and Stock-in-Trade are the two line items that follow. These two line items are linked to the same note (Note 20).

All purchases of finished goods made by the corporation for the purpose of operating its business are referred to as purchases of stock in the trade. This costs 211 Cr. rupees. I’ll explain this line item in more detail later.

The term “change in finished goods inventory” relates to manufacturing expenses incurred by the business in the past, but the goods produced in the past were sold in the present/current financial year. For FY14, this amounts to (Rs. 29.2) Crs.

The company manufactured more batteries in FY14 than it was able to sell, as indicated by a negative number. The cost incurred in producing the extra goods is subtracted from the current year’s costs to provide a sense of proportion (in terms of sales and sales costs). When the business is able to sell these additional products at some point in the future, they will add this cost. This expense, which the business later deducts, will be shown under the “Purchases of Stock in Trade” line.

The information provided in the extract above is clear-cut and simple to comprehend. It might not be essential to go further into this letter at this point. Knowing where the sum stands are advantageous. However, we shall go more deeply into this topic when we take up “Financial Modeling” as a distinct module.

Employee Benefits Expense is the following line item under expenses. This makes sense because it covers costs related to salaries paid, provident fund contributions, and other employee welfare costs. The amount for FY14 is Rs. 158 Crs. Look at note 21’s excerpt, which describes the “Employee Benefits Expense.”

I’ll give you something to consider: Only Rs.158 Cr., or 4.5 percent of total sales, or Rs. 3482 Cr. are spent on staff by the corporation. In fact, most businesses exhibit this tendency (at least non-IT). Maybe it’s time to give that idea of starting your own business another look.

The “Finance Cost / Finance Charges/ Borrowing Costs” line item appears next. An entity pays finance costs, such as interest and other expenses, when it borrows money. The company’s lenders receive interest payments. Banks or private lenders could be the lenders. The cost of financing for the company in FY14 is Rs. 0.7 Crs.

The next line item after the finance cost is “Depreciation and Amortization” charges, which total Rs. 64.5 Cr. We must comprehend the idea of tangible and intangible assets in order to grasp depreciation and amortization.

A tangible asset, such as a laptop, printer, automobile, plant, piece of machinery, building, etc., has a physical shape and offers economic value to the business.

Intangible assets, such as brand value, trademarks, copyrights, patents, franchises, customer lists, etc., lack a physical form yet nonetheless have economic value to the business.

Over the course of its useful life, an asset—tangible or intangible—must be depreciated. The term “useful life” refers to the time frame in which an asset can help the business financially. A laptop’s useful life, for instance, might be 4 years. Let’s use the example below to better understand depreciation.

A stockbroking company, Zerodha, earns Rs. 100,000 from its stockbroking operations. However, Zerodha had to pay Rs. 65,000 for the acquisition of a powerful computer server. The server’s estimated economic life (useful life) is 5 years. Now, if you were to investigate Zerodha’s earning potential, it would seem that on the one hand, Zerodha made Rs. 100,000 but on the other, spent Rs. 65,000 and only kept Rs. 35,000. This distorts the data on current-year earnings and obscures the company’s true earning potential.

Keep in mind that even though the item was purchased this year, it will continue to generate financial benefits throughout its useful life. Spreading the cost of acquiring the asset throughout its useful life makes sense as a result. It’s known as depreciation. This implies that the corporation can display a smaller amount distributed over the asset’s useful life rather than an upfront lump sum expense (towards the purchase of an asset).

Thus, Rs. 65,000 will be dispersed during the server’s five-year useful life. The depreciation would therefore be 65,000/5 = Rs. 13,000 over the following five years. We stretch out the initial expense by depreciating the asset. As a result, Zerodha would now list the price of its earrings as Rs. 100,000 – Rs. 13,000 = Rs. 87,000/- after the depreciation calculation.

For non-tangible assets, we can perform a comparable exercise. Amortization is the non-tangible asset equivalent of depreciation.

This is a crucial concept: Zerodha amortizes the cost of acquisition of an asset over the course of its useful life. In actuality, however, Rs. 65,000 was really paid toward the asset purchase. However, it appears that the P&L is no longer recording this outflow. How can we as analysts feel the movement of cash? The cash flow statement, which we will comprehend in the next chapters, records the cash movement.

“Other expenses” are the final line item on the expense side, costing Rs. 434.6 Cr. This enormous sum is listed under “other expenses.” Therefore, it merits a thorough examination.

It is evident from the comment that other expenses also cover things like manufacturing, selling, and administrative costs. The message mentions the specifics. Amara Raja Batteries Limited (ARBL), for instance, spent Rs. 27.5 Cr. on advertising and promotional efforts.

Amara Raja Batteries appears to have spent Rs. 2941.6 Cr. after adding together all the expenses listed on the expense side of the P&L.