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Breaking down the basics of a profit and loss report
Posted by Grace Townsley
December 29, 2022
A profit and loss statement (P&L), also known as a profit and loss report, is a financial document that summarizes the revenues, costs and expenses incurred during a specific period.
The purpose of this profit and loss report is to provide businesses and other stakeholders with an accurate and detailed assessment of their financial performance over a given period.
It also provides information on how much money has been earned through the sale of products or services, as well as the main costs associated with running operations, paying back debt and paying taxes.
A P&L statement can be used by companies of any size, in any industry, to evaluate the financial impact of a business’ operations. And once you learn how to read this statement accurately, you’ll have a good idea of the efficiency and profitability of any company that prepares one.
Detailed profit and loss reports includes a few main items
Your P&L statement is composed of two main parts, the income earned section and the expenditures section. At the top, you’ll see the period of time this report covers, then the income and expenditures will be listed below.
Here are a few of the items you’ll notice on a profit and loss report:
This includes sales revenue and other sources of income, such as interest earned on investments or rental income.
This is your total revenue (listed above), minus the cost of goods sold.
Expenses can include operational expenses like utilities paid out, employee salaries and wages, or taxes paid out during that accounting period.
In a detailed P&L statement, additional information about each expense category may also be provided, along with totals at either day-level granularity or month-level, depending upon how you want to analyze your business’ financial performance.
If your business has loans, you’re likely paying interest. On your profit and loss report, that interest must be accounted for, even though this technically isn’t an “expense” in the traditional sense.
This is the value your purchased assets, like real estate and equipment, lose over time.
Net income after taxes
This section reflects the final amount of money left over, once every revenue item has been added and every liability subtracted.
Depending on how your business is using the P&L statement, you may include more detail under each category, by listing individual expenses, or you may produce a higher-level report that focuses only on the value of each main category.
How can small businesses prepare their own profit and loss reports?
The process of preparing a profit and loss report is a bit tedious, but with the help of an accountant, it can become an almost automatic part of your financial oversight process.
Here’s a quick overview of how this crucial document is prepared:
Step 1: Start with gathering the necessary financial information for the specific time period you want to review, such as last month or fiscal year-to-date. You’ll need your revenue earned from sales, cost of goods sold (COGS), operating expenses and any other income or expense categories relevant to your business.
Step 2: Next, track your total revenue. You’ll list this at the top of your profit and loss statement.
Step 3: Insert all your related costs, including cost of goods sold, to calculate your Gross Profit/Loss. The formula here is, Revenue – Cost Of Goods Sold = Gross Profit/Loss.
Step 4: Next, insert your expenses, like salaries and wages, rent, utilities.
Step5: Subtract these operating expenses from your total sales to calculate your total income before taxes (how much you have left after taking all expenses from your profits).
Step 6: Finally, take out your taxes paid, interest expenses, and depreciation and amortization, if applicable. Now you’ve got your total net income!
Your profit and loss statement is useful for revealing waste and opportunities
A properly prepared profit and loss statement helps you track your small business’ performance over time. By comparing each period’s results over the course of quarters or years, you’ll notice potential problem areas, like increasing costs in one section, or declining revenue. That allows you to make quick adjustments — before these issues significantly impact your bottom line.
Profit and loss reports also help business owners make better-informed decisions about the future of their company. By analyzing your past and current data, you can see which activities maximize your profits, and which expenses bring down your overall profitability.
If you’re considering expanding your operations, adding a new product line or increasing production, for example, your profit and loss report can offer insight into the long-term impact of that decision.
A third benefit to preparing and reviewing your profit and loss reports is the opportunity to discover areas of boosted performance. Is a particular product or service significantly more profitable than others? Is a particular time of year better for business? Or do your costs fluctuate seasonally?
Noticing these trends — which may not be evident in any other kind of report— can give you a significant profitability boost and an edge over your competitors. For a leg up on cost-effectively managing your business’s P&L reports on a an ongoing basis, you may wish to consider financial services outsourcing.
Want more? In addition to accounting, taxes, bookkeeping and CFO services through its FinOps, Escalon’s Essential Business Services include PeopleOps (HR, benefits, recruiting and payroll) and Risk (business insurance). Talk to an expert today.
As a professional copywriter in the finance and B2B space, Grace Townsley offers small business leaders big insights—one precisely chosen word at a time. Let's connect!