The School Canteen: Profit, Drawings and a Falling Bank Balance
The Te Mwenga canteen is run by a school committee. At the start of Term 2 it held stock valued at $520 and a bank balance of $1,240. During the term the treasurer recorded: cash received from pupils $4,860; sales to teachers on credit $640, of which teachers had paid $460 by the end of term; purchases of goods $3,410, all paid in cash; wages to two students of $240 each; electricity $85; and a new chest freezer bought for $1,200 and paid by cheque. The committee chairman took goods costing $150 for a family funeral and told the treasurer to 'put it against the canteen'. At stocktake the shelves held goods the treasurer valued at $610, but this includes $90 of biscuits that passed their date during the term and cannot be sold. No depreciation has ever been recorded on the freezer; the committee agrees it loses 20% of its cost each year and that a term is one third of a year. One teacher has left the school owing $60 and will not pay.
1. Calculate the corrected gross profit and net profit for the term. Show each adjustment separately and explain how the chairman's goods and the expired biscuits are treated.
Read the worked answer
Sales. Cash $4,860 + credit $640 = $5,500. The unpaid debts are not deducted here; a bad debt is an expense.
Cost of goods sold.
- Opening stock $520
- Purchases $3,410 − $150 (chairman's goods, credited to drawings not to the canteen) = $3,260
- Closing stock $610 − $90 (unsaleable biscuits, written down to net realisable value) = $520
- COGS = 520 + 3 260 − 520 = $3,260
Gross profit = 5 500 − 3 260 = $2,240 (40.7% margin).
Expenses. Wages 2 × 240 = $480; electricity $85; depreciation 1 200 × 20% ÷ 3 = $80; bad debt $60. Total = $705.
Net profit = 2 240 − 705 = $1,535.
Reasoning on the two awkward items. Goods taken by the chairman are drawings, not an expense: subtracting them from purchases removes them from COGS, so profit rises by $150, while the same $150 reduces the committee's capital - the canteen is not 'charged' for his funeral. Expired biscuits must be valued at what they will realise (nil), not at cost; the $90 write-down belongs in COGS, which is why gross profit is $90 lower than a naive valuation would show.
2. The bank balance rose from $1,240 to only $1,385 although profit was $1,535. Reconcile the difference and explain to the committee why profit is not cash in the bank.
Read the worked answer
Bank movement. 1 240 + 4 860 (cash sales) + 460 (collected from teachers) − 3 410 (purchases) − 480 (wages) − 85 (electricity) − 1 200 (freezer) = $1,385, a rise of $145.
Bridge from profit to cash.
- Profit $1,535
- Add back depreciation $80 (a book entry; no money left the bank) = $1,615 cash generated from trading
- Less freezer $1,200 (capital spending, not an expense - the freezer is an asset) = $415
- Less $120 owed by teachers at year end (640 − 460 − 60) - sales counted but not yet collected = $295
- Less $150 of goods taken by the chairman, which raised profit by reducing purchases but produced no cash = $145 ✓
The lesson for the committee. Profit measures the value earned in a period; cash measures money in the bank at a moment. A profitable canteen can still have an empty account if it buys assets, sells on credit or lets committee members take stock.
Controls to recommend: one person receives money and another records it; a numbered receipt for every cash sale; a drawings book signed by anyone removing goods, valued at cost; no credit to staff beyond a fixed limit, with payroll deduction agreed in advance; and a monthly stocktake so write-downs are caught in the term they happen rather than discovered later.