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A profit and loss statement, also called an income statement, shows a business’s revenue, expenses, and net income over a specific period of time. It’s usually assessed quarterly and at the end of a business’s accounting year. Business owners use profit and loss statements to determine whether they should improve the bottom line by increasing revenues, cutting costs, or both.
Your profit and loss statement, along with your balance sheet and statement of cash flows, is one of the most important business financial statements. This statement will tell you whether your company is in the black for the year.
If you’re using business accounting software, it’s pretty easy to create a profit and loss statement. However, whether you’re using accounting software or spreadsheets, it’s important to learn the terminology that’s used in a profit and loss statement. That way, you can use the information in this statement to make your business more efficient.
Use this guide to analyze a profit and loss statement like a pro, and as a reference if you need help preparing one.
The first time you look at a profit and loss statement, or P&L statement, you might find yourself scratching your head. There is a lot of unfamiliar information if you aren’t a financial pro. Let’s explore the things you need to know to crack its code.
The first step in deciphering a profit and loss statement is knowing the definition of each of the various parts referenced. Here are the most common terms, and their definitions:
First things first: don’t be intimidated by your P&L statement. Remember a profit and loss is simply trying to look at your sales minus your costs. Of course, it can get more complicated from there.
When you’re looking at your profit and loss, it usually will list sales/revenue/income first (or all the money your business has made), costs/expenses next (what it costs your business to make that money), and end with profit/net income. You’ll see many subtotals throughout, but you are ultimately looking for that profit number at the bottom.
Depending on the details of your business, these categories can be broken out in different ways. For example, you might reference different sources of revenue if your business does generate revenue through different means (e.g. in-store sales and online sales). Think of this is the “top line” of your profit and loss statement.
You’ll also probably break out your expenses (e.g. overhead and materials). Usually you’ll see costs broken out based on the cost of delivering your product or service (COGS), and the general operating costs of the business (OPEX). People start by looking at revenue—COGS to get their gross margin. This gives you an idea of how much you have left over to cover other expenses after you’ve covered the cost of producing your product or service. Your EBIT, also known as operating profit, is the result of gross margin minus operating expenses. Finally, after accounting for interest, depreciation, amortization, and taxes, you’ll get your bottom line.
Your net profit, net income, net earnings—whatever you want to call it—is your bottom line. This shows your business’s profit or loss. If you show a loss, it means you spent more than you earned. If you show a profit, it means you made more than you spent.
In addition to a profit and loss statement, you should also generate a balance sheet and a cash flow statement for your business. These statements will tell you very different things about your business. Together, you can use all three financial statements to get an overall picture of your business’s financial health.
Now that you know how to read a profit and loss statement for small businesses, you’ll find it is quite easy to figure out how to prepare one.
We highly recommend that you use a top business accounting software like QuickBooks or Xero to manage your books. Software like this will make it easy to automatically prepare financial statements. Software like this also makes it easy to collaborate with a bookkeeper or an accountant, who can ensure your numbers are correct.
If you’re not quite ready to take on an accounting software, though, here are the steps you should follow to prepare a P&L statement:
As you can see, a simple profit and loss statement is all about answering the question: has my company operated at a profit or a loss over a specific period of time? As your prepare one, you can see how each source you reference brings you closer to an answer.
Here’s a profit and loss statement sample that shows you all of the terms we’ve covered so far:
Cost of Goods Sold
Depreciation and Amortization
Total Operating Expenses
EBIT / Operating Profit
EBT / Earnings Before Taxes
Taxes (assuming a 20% tax rate)
Earnings Available for Common Shareholders
In this sample profit and loss statement, ABC Corporation is operating at a healthy surplus of $252,000 for the year. Most of the business’s revenue comes from in-store sales, and the company’s main expense is payroll. The company can try to increase profits by further developing their online store and by conserving on payroll costs. Depending on the type of business you have, your operating expenses section might have far more expense categories.
Just keep in mind that profit and loss statement samples only show you the finished product. As mentioned above, one of the tougher parts is going to be ensuring your figures are correct on the P&L statement. This is why having accounting software and a great bookkeeper or accountant is essential—they’ll make sure that’s the case.
If you’re not using accounting software to generate a profit and loss statement form, you might find it easier to reference a simple profit and loss statement template. This will help ensure you’re following the right steps as your prepare your form.
Fundera’s profit and loss statement template can help you create a P&L statement in Microsoft Excel or Google Sheets. Microsoft Office, QuickBooks, and other sites also have Excel templates.
Excel or similar programs are certainly what you want to be preparing a profit and loss report in if you’re not using accounting software. If you are not familiar with Excel, there are many wonderful resources available online to answer questions you come up against. Using the formulas and tools in Excel, you can quickly calculate numbers and see patterns.
P&L statements are very important. In fact, public corporations are required by law to complete them. But aside from obeying the rules, profit and loss statements for small businesses give you the opportunity to review your net income, which is essential for making sound business decisions.
Understanding the insights that profit and loss statements provide can help you operate a more profitable business. Read your profit and loss statement regularly for signs that you are on the right track or for warnings that you might need to make some changes.
Compare and contrast your most recent statements with past statements for a better picture of your current standings and to help make informed decisions in the future. Staying on top of your finances is important when running a business. Regularly referencing your P&L statement will help you do just that.