February 2, 2022Otherwise known as an income statement, statement of profit, statement of operations or statement or earnings, a profit and loss report is one of the most important financial documents in any small business owner’s arsenal.In this article, we’ll be diving into what exactly a profit and loss statement is, what it’s used for and what it entails, with an example from the Ember app to give you the full breakdown.
What is a profit & loss (P&L) statement?
A profit and loss statement is a financial document that summarises the total income and expenses of a business over a specific period of time.From the statement’s findings, business leaders can determine the financial health of the company — whether or not the company is profitable or not — and make informed decisions on the next steps the business needs to take.
What information does a profit & loss statement show?
For any P&L statement, you can expect to find information about the business’s net profit or loss based on the company’s revenue and expenses. This can be worked out using the following formula:(Total revenue + Gains) - (Total expenses + Losses) = Net Income (Net Profit or Net Loss)From the information displayed, you can investigate trends, cash flow and the overall profitability of the business over a period of time, using the conclusions drawn to determine the allocation of resources.
What are P&L statements used for?
Mainly used on an internal basis, P&L statements are primarily used by business owners and company directors to determine the direction the business goes in.Business owners can decide where to allocate resources in order to maximise profits based on the findings of a P&L report, which can be anything from opening new offices, readjusting budgets according to department spend, or shutting down production lines altogether.With P&L statements able to provide insight into how the business has been performing throughout the accounting year, company owners can also identify problem areas and compare the company’s current financial health with previously established targets.While a company may choose to keep their P&L statements internal, P&L reports can be used for external gain, too. For companies looking to raise funding or those working with investors, P&L reports can be used by investors to track and predict a company’s growth, as well as to gain insight into the company’s financial health.
What can I expect to find on a P&L statement?
There are two key segments of a P&L statement — sales and overheads. In this article we’ll be covering the major components that make up a P&L statement, using an example of a P&L report generated in the Ember app.
Sales
Typically the first section on a P&L statement, ‘Sales’ (or ‘Revenue’) covers the gross sales made by the company across the time period in question. This can be broken down further into two sections: operating revenue and non-operating revenue.
Operating Revenue
The most recognisable form of income from any company, operating revenue describes the revenue realised from core company activities. In layman’s terms, this is the money that you make from selling the goods or services that you set your business up to provide.
Non-operating Revenue
Non-operating revenue refers to the revenue a company makes from secondary, non-core business activities. This income is more passive, and encompasses income from interest earned on business capital in the bank. rental income from business properties and advertisements displayed on company property.
Other Income
Commonly referred to as ‘Gains’, this category refers to income that is made from activities that are made from activities that are not directly related to the business. This includes activities such as selling off the company's assets, such as vehicles or unused land, and one-off sales.
Cost of Sales
Moving further down the P&L report, you’ll find that this section marks the start of the business’s expenses. Otherwise known as the ‘Cost of Goods Sold (COGS)’, this still falls under the ‘Sales’ header as it contributes to calculating the gross profit (or loss) for the time period, and denotes the total amount paid towards creating the goods or providing the services that go on to be sold. For example, a bakery that specialises in cake making would include the cost of ingredients and packaging in this category.
Gross Profit (or Gross Loss)
Describing the net revenue excluding the cost of sales, the gross profit is one of the key figures needed to work out if a business is making a profit or loss. Used to calculate the gross profit margin, this metric is indicative of a company’s efficiency, and is calculated using the following equation:(Sales + Gains) - Cost of Sales = Gross Profit
Overheads
Otherwise referred to as ‘Expenses’, overheads describe the necessary costs made by a business to continue operating. Some of these operating expenses can be claimed back as allowable expenses or as capital allowances in a tax return, making it all the more important to record your expenses as you accrue them.
With the Ember app, our receipt-capture technology makes it possible for you to snap and store your receipts safely as you spend, with our clever technology automatically categorising them — making it all the easier to track your outgoings.Much like the ‘Sales’ category above, overheads can be broken down into two sections: primary activity expenses and secondary activity expenses.
Primary Activity Expenses
Encompassing expenses such as general and administration expenses (SG&A), depreciation and research and development (R&D) expenses, primary activity expenses cover outgoings incurred through core business activity.Other expenses that fall under this category include employee wages, sales commissions, and expenses for utilities.
Secondary Activity Expenses
Secondary activity expenses are related to non-core business activities, such as paying interest on a loan.
Losses
The inverse of ‘Gains’, losses are one-off expenses, loss-making sales of long-term assets or unexpected costs, such as settling a lawsuit.
Net Profit
One of the most critical figures on a P&L statement, net profit (or ‘Net Income’) is the total amount left over after the total accrued in expenses is subtracted from the gross profit. Most P&L statements include earnings before taxes and earnings after taxes, with Ember taking this one step further by calculating your estimated Corporation Tax for you.
