PROFIT :-The amount of income which is excess than the expenditure of the business during a given period is called profit.
Profit = Total revenue - Total expenditure
PROFIT DETERMINATION OR ASCERTAINMENT OF PROFIT :-
Profit determination is very important for the various parties. If profits are not determined properly, these affect the following parties adversely.
1. Shareholders.
2. Proprietor.
3. Managers.
4. Income tax department.
5. Director if they are paid on the percentage of profit .
Determination of profit is a very difficult job. Various difficulties are being found in they way of profit determination. While collecting the correct profits following problems are being faced.
1. Valuation Of Liabilities :-
It is a very careful job to asses the value of liabilities at the close of the period. What should be the assessment rate of various liabilities. If the various liabilities are not valued at uniform rates then it may affect the profit of the business.
2. Valuation Of Assets :-
It is also difficult to asses the value of the assets at the end of the period. Uniform rate of assessment should be applied. In case of fixed assets what, should be the rate of depreciation. It may be estimated only.
3. Stock In Trade Valuation :-
For the valuation of stock in trade there is difference of opinion among the people. "Cost or market price which ever is lower". Principle is followed but different companies take different meanings of it.
4. Deferred Revenue Expenditure :-
Sometimes above terms might have been debited to the current year's profit and loss account and due to this profit of the current year will be shown lower than the actual.
5. Opinion About Intangible Assets :-
There is no uniform opinion about the valuation of goodwill patent rights etc.
IMPORTANCE OF DETERMINATION OF PROFITS :-
Importance of the proper determination of profits may be judged by the following of facts. If the profits are not calculated correctly then it will affect the parties in the following way :
1. Effect On Shareholders :-
If the profits are understated the shareholders will obtain less profit then the actual they were entitled.
2. Effect On The Investors :-
Those investors who are interested to do the investment in the company. They are misguided if the profits shown are not correct. Because investor always keep an eye on the profit of the company.
3. Effect On The Value Of Share :-
In case of overstatement profit will increase the value of shares in the market. Directors may play unfair game by selling the shares at high rate.
4. Effect On Managers :-
In case of understatement of profits commission of the managers will be reduced. Because if profit is high commission will increase and if profit reduces commission will also reduce.
5. Effect On Bonus Amount :-
Company also give bonus to their employees. If earns profit. If aggregate profit is high bonus amount will also be high. If less profit it shown then bonus amount will also reduce.
6. Effect On Directorship :-
If excess profits are shown than the actual profit it means that some pan of capital is also distributed in the shape of dividend. It means that capital of the company is reduced without the approval of the court. In this case directors of the company are liable to pay such amount to the company which is paid as a dividend.
7. Effects On Creditors :-
If the excess profit is shown and distributed. It means that capital is reduced or assets of the company are reduced. When assets are reduced that means security given to the creditors and debenture holders reduced. Its ultimate result mil be the liquidation of the company.
8. Effects On Income Tax Revenue :-
If the profit is understated in the balance sheet it will reduce the income tax revenue of the government.
9. Effects On Financial Institutions :-
In case of overstated profits banks and other financial institutions which are providing credit to the company will also be affected adversely.
10. Effects On Auditor :-
It is the duty of the auditor that he should submit the true and fair report about the affairs of the company shown in the balance sheet is incorrect then auditor will be held responsible for that.
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