Profit and Loss Statement
Sometimes referred to as a statement of profit and loss, income and expense statement, or statement of operations, a profit and loss statement presents a picture of where a business stands financially and measures net profit. It is one of three financial documents public companies issue monthly, quarterly and annually —the other are the cash flow statement and balance sheet.
“It is a report card of how you performed in a particular period,” said Harry Catrakilis, partner of global accounting firm CKH, a CPA and adviser company.
Companies typically issue a profit and loss statement annually, quarterly or monthly, and the information in it can help a business plan for months and years ahead. Comparing your current profit and loss statement to previous statements will enable you to identify trends to make more informed business decisions.
Follow along into this deep dive into the profit and loss statement: Learn how businesses use it and get to know some key terms associated with it.
Understanding a profit and loss statement
Businesses use a profit and loss statement to see if they are profitable. You can use the document in a number of different ways.
An investor might use a profit and loss statement to check the financial health of the company. An accountant might use it to cross-check transactions. And a business owner can use it to measure performance from one period to the next.
“Say that one of the things I’d like to know is, how much did I sell last June? If I’m really sophisticated, I’d want to compare it to my budget. What were my sales last year to this year, and what did I think I was going to sell this year in comparison?” Catrakilis said. For a leader, it raises the question of, “Why did that happen?” he said.
Profit and loss vs. cash flow statement vs. balance sheet
How does a the P&L differ from the two other important financial statements?
You already know the P&L provides a window into the financial position of the company and also measures net profit. You use a cash flow statement, also known as a statement of cash flows, to measure your company’s cash flow over a specific time period. Your cash flow statement shows the sources of money coming in and going out, which is reflected on your balance sheet. You measure your company’s financial performance with an income statement.
The balance sheet and the P&L statement both contain a lot of the same financial information, such as expenses and revenues. The balance sheet, however, provides an overview of what you owe and own. The balance sheet reports your company’s assets, liabilities and shareholders’ equity, and helps calculate your rates of return and evaluate their capital.
How a business uses a profit and loss statement
You can use a profit and loss statement to determine if your company is on the right financial track or if you need to make changes. For example, if your business shows high revenues but has a low net income, you can figure out how to reduce expenses for a higher net income.
You might need profit and loss statements for business valuations or to show to a bank or other lender if you need a loan. So, what happens when a company has only numbers to support its request for capital, but its income statement is missing?
“That’s where most small businesses get frustrated,” Catrakilis said. “They build this really cool business, and want to sell it to somebody. But they don’t have financial statements to confirm that.” Additionally, business owners should review their profit and loss statement to make sure no personal expenses are running through the business, according to Catrakilis.
You can also use profit and loss statements to formulate business plans for valuations and taxes. You can review your budgeted figures relative to the P&L statement in order to determine the health of your company and see if you’ve met your goals.
For tax preparation purposes, you can use profit and loss statements to fill out the income and expenses section on the Schedule C statement, which is part of a business owner’s personal tax return.
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What a profit and loss statement looks like
Profit and loss statements are all similar, but might vary a bit. A standard P&L statement uses revenues minus expenses to determine net profit.
Revenue – Expenses = Net Profit
The top of the entry form, called the top line, lists revenues and subtracts the cost of doing business. The cost of doing business includes cost of goods sold, operating expenses, and interest and tax expenses.
“If you have inventory, COGS will show you if there’s shrinkage, if somebody steals the product,” Catrakilis said. Your net income — also called the bottom line or profits for the given time period — is what remains after everything is accounted for.
Common terms on a profit and loss statement
- Cost of goods sold: COGS represents the cost of creating a product or service. For example, a cup of coffee from the coffee shop will include the cost of the paper cup, the sleeve and any other costs involved in making a cup of coffee.
- Depreciation: Depreciation happens when something loses value over time, such as cars, machinery and equipment.
- EBITDA: This stands for earnings before interest, tax, depreciation and amortization, and it serves as a measurement for how a business operates — and how well it produces cash flow.
- EBIT: You use your earnings — before interest and tax — to measure profitability. It represents the difference in the COGS and operating expenses from the total revenue.
- Gross profit: This figure equals revenue less the cost of goods (gross profit = revenue – COGS); you pay expenses from your gross profit.
- Net profit: Also called the bottom line, this is the amount of profit you generate per dollar sold. To put it simply, it’s revenues minus all total expenses (COGS, operating, tax and interest expenses).
- Operational expenditures: This represents the cost of running a business but does not include the cost of goods. Examples include wages, rent, mortgages, utilities, hardware, software, advertising, Wi-Fi and more.
- Revenue: Revenue refers to your total sales of products and/or services, but can also include revenue from selling property or equipment — or a tax refund.
- Wages and salaries: These are the costs to pay employees.
Click here or a downloadable template of a basic profit and loss statement.
The bottom line
A profit and loss statement separates the dreamers from true entrepreneurs because it provides a clear picture of a business’ financials. Business owners can use a P&L statement to foresee upcoming obstacles and make adjustments for them, which is crucial to finding solutions and making sound business decisions.