Profit and loss are two crucial metrics that determine the company’s financial health. That’s the reason business professionals must be aware of how to make a profit and loss statement.
If you know it well, it will be massively rewarding in your business journey. How? The answer is simple! You will be able to predict how your business is performing. Are you making a profit or incurring significant losses on your job? You’ll have a lucid answer to it in front of you. Thus, creating P&L reports is an effective approach.
In this reading guide, you will find a comprehensive overview of the profit and loss statement. Additionally, you will also unlock its types, examples & importance. So, reading our words will fuel your learning.
📌 Key Takeaways
- A profit and loss statement includes data on revenues, cost of goods sold, operating expenses, and net income.
- The typical time of analysis of P&L statements is monthly, quarterly, or annually.
- Statements are prepared along with the cash flow statement and balance sheet.
- P&L statements are helpful for business owners to adjust the company’s pricing structure.
- A year-to-date profit and loss statement is useful for tax purposes.
What Is a Profit and Loss Statement?
A profit and loss statement (income statement) is a financial document that represents the company’s net profit, revenue, expenses, and resulting profit or loss. This report presents the company’s financial performance for the specified period. This period could be monthly, quarterly, or annually.
A clear & simple profit and loss statement makes it easy for you to evaluate your business performance and economic well-being. Additionally, it also attracts investors by representing your company’s potential growth.
It is also helpful in making informed financial decisions that benefit the company. Furthermore, you can also use it during the taxation process.
💡Unbelievable Facts
According to the Federal Reserve Bank of St. Louis report, a 73% increase in corporate profits has been observed. The most profit-driving sectors are retail, manufacturing, construction, healthcare, and wholesale trade.
What Is the Format of a Profit & Loss (P&L) Statement?
Different businesses may have different profit & loss statement formats according to the industry type. Typically, the general P&L statement structure is as follows:
Company Name
Profit and Loss Statement
Period (Starting Date to Ending Date)
| Particulars | Amount (Assume Figures) |
|---|---|
| Revenue | |
| Gross Revenue | $5,00,000 |
| Sales Return | $100,000 |
| Net Revenue | $4,00,000 |
| COGS | |
| Opening Inventory | $10,000 |
| Purchase | $20,000 |
| Closing Inventory | $7,000 |
| Total COGS | $23,000 |
| Gross Profit (Revenue – Total COGS) | $3,77,000 |
| Operating Expenses | |
| Rent | $2,000 |
| Salary | $25,000 |
| Office Supplies | $800 |
| Other Operating Expenses | $100 |
| Total Operating Expense | $27,900 |
| Operating Profit (Gross Profit – Operating Expenses) | $3,49,100 |
| Other Income | |
| Interest Income | $1000 |
| Net Other Income | $1000 |
| Net Profit Before Tax | |
| Operating Profit + Net Other Income | $3,50,100 |
| Other Expenses | $20,000 |
| Taxes | |
| Sales Tax | $500 |
| Other Tax | $400 |
| Total Tax | $900 |
| Net Profit (Net Income) = Net Profit Before Tax – Other Expenses – Total Tax | $3,29,200 |
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What Are the Main Components of a Profit and Loss Statement?
There are various elements in the profit & loss statement, each of which defines its meaning & purpose. In general, it comprises the following components:
Revenue
Also known as gross revenue, represents the earnings amount generated before subtracting any expenses. It is also interchangeable with sales. However, sales revenue is often referred to as the income that your company generates from its core business.
COGS (Cost of Goods Sold)
Cost of Goods Sold includes the costs that your company spends on product manufacturing and its sale. It covers labor cost, raw materials, inbound shipping, and other expenses.
In General –
COGS = Opening Inventory + Purchases During the Period – Closing Inventory
For Manufacturing –
COGS = Direct Material + Direct Labor + Manufacturing Overhead
Gross Profit
The profit your company makes after deducting COGS from total revenue. It does not include deductions for taxes, interest, and operating expenses.
Gross Profit = Total Revenue – COGS
Operating Income/EBIT
Operating income is the company’s profit, marked after deducting all operating expenses from the gross profit. It is also referred to as EBIT (Earnings Before Interest and Taxes).
It is a metric that showcases the amount of money the company holds prior to covering interest and taxes. Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) is another similar metric.
Operating Income = Total Revenue – COGS – Total Operating Expenses
Operating Margin
Generally, it is expressed as a percentage of revenue. It refers to the percentage of revenue that remains as a profit after covering the entire operating expenses. The interest and taxes are not covered in it.
Operating Margin = Operating Income ÷ Revenue x 100
Net Income
The net profit or income of the company refers to the company’s profit after deducting all taxes, expenses, interest, amortization, and COGS from the total revenue. It is also referred to as net profit, net earnings, or bottom line.
Net Income = Total Revenue – Total Expenses
Or
Net Income = Total Revenue – COGS – Operating Expenses – Interest Expenses – Taxes
How to Read & Analyze a Profit and Loss Statement?
As a company owner, you must understand the correct method for reading a profit and loss (P&L) statement. One effective way is to examine the figure line by line in a sequential manner. Meanwhile, you can compare the current figures with those of the past. In this way, you’ll be able to examine the company’s performance.
You can focus on key financial metrics, such as gross profit margin, operating margin, and net profit margin. Analyse the trends and determine whether they are improving or not. Moreover, valuable metrics like the P/E ratio and EV/EBITDA are also points to consider.
How to Create a Profit and Loss Statement?
A profit and loss statement is a crucial business financial report that should be prepared along with the cash flow statement. You can create it quarterly, monthly, or annually, depending on the business size & nature.
Use the steps below as a guide on how to make a profit and loss statement:
1. Choosing the Period
Initially, you need to choose the timeframe for which you want to create your simple profit & loss statement. You have various options, including weekly, biweekly, monthly, or annual. Have proper clarity on it before stepping further in the process.
2. Analyze Your Business Revenue
Once you have decided on the above timespan, the next step is to monitor your business revenue for the same period. Note down all the revenues you earn and then add them up.
3. Calculate Cost of Goods Sold
Calculate the cost of goods sold by considering all the costs incurred in the product’s manufacturing. It includes both labor and material costs. The other indirect costs, such as office rent and overhead expenses, are exempt from it. The COGS is calculated as:
COGS = Beginning Inventory + Purchase – Ending Inventory
4. Gross Profit
Gross profit refers to the revenue that you gain after deducting the cost of creating and providing the product or the service. To calculate gross profit, you need to use the formula:
Gross Profit = Revenue – COGS
5. Recording & Calculating Operating Expenses
Operating expenses refer to the costs incurred for operating a business. You might pay office rent, utilities, insurance premiums, or loan repayments. Consider all these costs, as they are the expenses you incur to run your business.
6. Calculating Depreciation
Depreciation represents the reduction in value of a company’s assets due to wear & tear or other forms of obsolescence. The company’s assets include equipment, vehicles, and other physical things. It is recorded in the operating expense form, which reduces net profit and taxable income.
7. Identifying the Operating Profit
Operating profit is the profit you earn after deducting operating expenses and depreciation. You might get an operating loss if the operating profit is less than the operating expenses.
Operating Profit = Gross Profit – Operating Expenses – Depreciation
8. Calculating Interest
If you have a business loan, then calculate the total interest you paid for the period. Similarly, consider all the taxes you pay from the total revenue you earn.
9. Determining the Net Profit
The bottom line of your profit and loss sheet will include the net profit of your business. Calculating net profit is straightforward. Subtract taxes and all expenses from the operating profit.
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Profit and Loss Statement Example
Previously, we have covered the steps to determine the P&L statement. Let’s gain a deeper understanding through a profit and loss statement example, assuming the relevant details are provided.
Suppose a company named EcoCraft Manufacturing is a manufacturing unit. It is making a monthly profit and loss statement with the following data.
EcoCraft Manufacturing Pvt Ltd
Monthly Income Statement
| Particulars | September | October |
|---|---|---|
| Sales/Revenue | $25,00,000 | $26,00,000 |
| Cost of Goods Sold | $10,50,000 | $10,00,000 |
| Gross Profit (Revenue-COGS) | $14,50,000 | $16,00,000 |
| Operating Expenses | ||
| Insurance | $15,000 | $15,000 |
| Marketing & Advertisement | $50,000 | $45,000 |
| Rent | $45,000 | $45,000 |
| Commission | $120 | $100 |
| Wages | $1,20,000 | $1,20,000 |
| Miscellaneous Operating Cost | $10,000 | $6,000 |
| Total | $2,40,120 | $2,31,100 |
| Operating Profit (Gross Profit – Operating Expenses) | $12,09,880 | $13,68,900 |
| Non-Operational Income | ||
| Interest Revenue | $1200 | $1300 |
| Non-Operating Expenses | $10,000 | $9,500 |
| Taxes | $15,000 | $15,000 |
| Net Income (Operating Profit + Non-Operational Income – Other Non-Operating Expenses – Taxes) | $11,86,080 | $13,45,700 |
From the above profit and loss sheet, we can compare the company’s performance. The company’s net income (also known as net profit) is higher than it was in the previous month. Thus, the company earns a higher amount in October than in September, as indicated by this monthly profit and loss statement.
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Types of Profit and Loss Statements
After learning how to create a profit and loss statement, let’s move on to its various types. Here, we define four methods to categorize P&L statement types. In general, the first two are very popular.
1. Cash Method
The name itself presents its purpose. This method is solely used when a company is involved in a cash transaction. Small businesses usually use this method, but it is also applicable for personal use.
2. Accrual Method
The accrual accounting method involves the inclusion of revenue records just after products & services are sold. This recording is not aligned with the receipt of the payment. Similarly, expenses are recorded before paying the bill.
The choice of two methods depends on the business size and its nature. The cash method is straightforward, making it ideal for small businesses. The accrual method is good for large-scale businesses.
3. Single-Step Method
A single-step method is very simple. Here, you can easily compute the net income by subtracting total expenses from the revenue.
Net Income = Revenue – Total Expenses
There is no further subcategorization of revenues and expenses. This method is suitable for businesses with very low expenses.
4. Multi-Step Method
Unlike the single-step method, it’s a bit complex. It separates operating and non-operating revenues and expenses into distinct categories. It gives more insights into the financial condition, including operating profit and gross profit.
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Importance of Profit and Loss Statement
The profit and loss (P&L) statement is a fundamental part of business accounting. The following are the points that justify its value:
Business Performance Analysis
Professionals can easily identify the business performance level. As the P&L statement includes details of income and expenses, it is easy to compare them and assess the company’s financial strength.
Helpful in Decision Making
Professionals can make informed decisions on pricing strategy, expense control, and resource allocation. Thanks to the detailed information on the P&L, you can easily identify where to cut expenses by comparing the performance details.
Useful for Investors, banks, & Lenders
Through clear details in the profit and loss report, investors can make informed decisions about their investment. Similarly, banks and other lenders can analyse the company’s financial performance before approving the loan. Thus, companies need the report during their loan process.
Other Financial Statements to Analyse
Analysing profit and loss is one part of managing the financial reports of your business. You must also include balance sheet analysis and cash flow statements in your strategy.
A balance sheet represents your company’s assets, liabilities, and equity. Thus, you have a clear understanding of what the company owns (assets) and owes (liabilities). Furthermore, it provides a clear indication of the company’s ability to meet short-term obligations through liquidity evaluation.
The cash statement provides an overview of how your company has utilized cash during a specific period. It covers the details of the overall amount of cash your company got and the amount of cash invested. Also, the statement includes the changes in the cash position.
End Note
A profit and loss statement report is a major aspect of your company’s performance. As a business owner, you must manage it wisely, along with your balance sheet, regardless of the business’s size and nature.
Regularly reviewing your profit and loss (P&L) statement helps you monitor your company’s growth. Does it sound burdensome? We have the right solution for you. Choose online invoicing software like Moon Invoice and experience the difference!
Frequently Asked Questions
What Are the Red Flags on a P&L Statement?
Can I Create My P&L Statement?
What Is the Profit and Loss Statement Formula?
Are P&L and Cash Flow Statements the Same?
Is a Profit and Loss the Same as an Income Statement?
Do all Businesses need to prepare a P&L Statement?
Jayanti Katariya is the founder & CEO of Moon Invoice, with over a decade of experience in developing SaaS products and the fintech industry. He holds a degree in engineering. Since 2011, Jayanti's expertise has helped thousands of businesses, from small startups to large enterprises, streamline invoicing, estimation, and accounting operations. His vision is to deliver top-tier financial solutions globally, ensuring efficient financial management for all business owners.
