A trading firm’s average inventory is Rs. 20,000 (cost). If the inventory turnover ratio is 8 times and the firm sells goods at a gross profit of 20% on sales, ascertain the gross profit of the firm.
Rs. 40,000
Explanation
This question tests the application of Inventory Turnover Ratio formula and its relationship with Gross Profit. The context provides a similar illustration (Illustration 14) demonstrating the exact method to solve such problems. The key steps involve: (1) using the inventory turnover ratio formula to find Cost of Revenue from Operations, (2) converting cost to sales using the gross profit percentage relationship, and (3) calculating gross profit as the difference between sales and cost. Since gross profit is 20% on sales, cost represents 80% of sales, which is the crucial relationship for conversion.
Solution Steps
Step 1: Calculate Cost of Revenue from Operations using Inventory Turnover Ratio formula: Inventory Turnover Ratio = Cost of Revenue from Operations / Average Inventory 8 = Cost of Revenue from Operations / Rs. 20,000 Cost of Revenue from Operations = 8 × Rs. 20,000 = Rs. 1,60,000
Step 2: Calculate Revenue from Operations (Sales): Since Gross Profit is 20% on Sales, Cost = 80% of Sales Revenue from Operations = Cost of Revenue from Operations × (100/80) = Rs. 1,60,000 × (100/80) = Rs. 1,60, = Rs. 2,00,000
Step 3: Calculate Gross Profit: Gross Profit = Revenue from Operations – Cost of Revenue from Operations = Rs. 2,00,000 – Rs. 1,60,000 = Rs. 40,000