Profit and loss statement: template & guide
Learn how to prepare and analyze a profit and loss statement and download our free template to create your own.
Learn how to prepare and analyze a profit and loss statement and download our free template to create your own.
The three most important financial statements of any business are the cash flow statement, balance sheet, and profit and loss statement. While a cash flow statement shows the changes in cash and cash equivalents, a balance sheet provides a snapshot of the company’s assets, liabilities and owners’ equity.
But how can you tell if your business sales are bringing in money? How do you know if operating costs are too high to sustain operations? That’s where a profit and loss statement comes in. Usually abbreviated as P&L statement or simply P&L, a profit and loss statement is at times known as an income statement, statement of profit and loss, or statement of operations.
In addition to providing a profit and loss statement template that you can use for your business, this article explains the purpose of a P&L, how to analyze it and the way to prepare one for your business. We also provide a profit and loss statement example that you can use to help create your company’s financial statements. This article is intended to provide you with information that may be useful in understanding this complicated topic, you should seek the help of a professional for advice for your specific situation.
A profit and loss statement is a financial statement that shows a company’s exact revenue, expenses and net income over a given time period. You can create a profit and loss statement for a monthly, quarterly or annual period. Whatever the case, it will show you how much money you’re bringing in and how much you’re spending.
From those values, you can tell (in one quick view) whether or not the business is profitable and sustainable. In other words, a P&L will help you assess the performance of your business and identify room for improvement and opportunities for growth.
What does a profit and loss statement look like? An income statement is basically a table with rows and columns created on a spreadsheet. Some of the best spreadsheets for a profit and loss statement are Google Sheets, Microsoft Excel, Smartsheet, and EasyCSV. We have a profit and loss statement template and example in later sections to show you how this statement looks like.
While some profit and loss statements are just a few lines, others span multiple pages. The size of an income statement depends on the size of the company. If, for example, you own a small business with one or two sources of revenue, then your P&L statement is likely to be short. On the other hand, large, publicly-traded companies with extensive product lines have long profit and loss statements.
The ultimate purpose of a profit and loss statement is to determine whether or not a company is making profits. Since it captures sales and their sources, a P&L demonstrates the company’s ability to generate revenue and is one of the most important documents you should have for your bookkeeping.
At the same time, an income statement shows production and operation expenses in detail over a period of time, thus revealing where costs are going. By deducting costs from revenue, you will end up with net income – which can either be a profit or a loss.
If your profit and loss statement for small business points to a profit, you can save or reinvest it. If it’s a loss, then it means that your business strategy is unsustainable and needs reevaluating. Either way, the profit & loss statement is the leading statement for providing insight into your business’s financial health. It will help you know things like:
Beyond the business owner(s), investors and lenders also look at the profit and loss statement when making investment and lending decisions. For example, an investor will compare your income statements from multiple periods to see if you have a history of profitability. They’ll also use the statement to see if you make sound business decisions as far as prioritizing streams of revenue as well as managing costs efficiently.
Lenders, on their part, will check your profit and loss statement to see whether your business makes profits. They’ll also use it to determine if your business model is sustainable and can meet the short- and long-term obligations that come with a debt. In short, lenders use P&L statements to determine your creditworthiness.
Ultimately, the purpose of a profit and loss statement is to show a company’s profitability (or lack of it). Investors use the P&L to decide whether a certain business is a worthy investment while lenders use the statement to determine creditworthiness.
The IRS encourages sole proprietors and independent contractors to prepare a profit and loss statement, then use it to file Schedule C of Form 1040. Even if your business made a loss, you still have to prepare an income statement and report the loss to the IRS.
But how do you know if your activities qualify you as self-employed or an independent contractor? According to the IRS, you qualify if:
A P&L usually has the following components:
These elements are typically included in all income statements. However, a small business or self employed profit and loss statement will have fewer entries compared to a big corporation. For example, big companies have things like R&D in their expenditure list while small businesses generally don’t. Here’s a breakdown of what each element of a profit and loss statement means.
All income statements start with the revenue received from sales over the covered period. The value is typically computed separately and the result imported to the profit and loss statement.
This entry captures all the expenses that the business incurred over the period for which a P&L is prepared. They include rent/lease, payroll, office equipment, insurance, taxes, depreciation, marketing etc. You have the option to tot up the expenses and have one entry for expenditure. Alternatively, you can list each expense as a separate entry along with its associated amount. The latter option is better because it gives a clearer view of how money was spent.
At times referred to as direct costs, the cost of goods sold (COGS) refers to money spent exclusively to produce and/or sell a product or service. It’s different from expenditure in that COGS can be directly attributed to your primary product or service. The cost of raw materials is an example of COGS because materials are used in the production of goods. But things like labor, marketing, insurance, rent and accounting are not part of direct costs.
This is the difference between your revenue and direct costs.
Gross Profit = Revenue – Direct Costs
It shows how much income the business generated from the sale of its goods and services. You use the gross profit to find your gross margin. Usually expressed as a percentage, gross margin shows how much profit the company made before deducting SG&A costs (selling, general, and administrative costs). It’s an indicator of the business’s financial health. Investors and lenders will look at it when trying to figure whether or not your business model is profitable. The higher your gross margin, the better.
The formula for gross margin is:
Gross Margin = Gross Profit/Revenue x 100%
Say, for example, that you have a business that sells laptops. In one month, you acquire a stock of laptops worth $20,000; that amount is your direct cost. Assume that you sell all the laptops within the month for a combined total of $35,000; that amount is your revenue.
Your gross profit would be $15,000 (calculated as $35,000 - $20,000) and your gross margin would be 43% (calculated as 15,000/35,000 x 100%).
Also known as indirect costs, operating expenses (OPEX) are all the costs that a business incurs during normal operations. They include things like office supplies, payroll, marketing, insurance, administrative costs, rent etc.
Depreciation refers to the reduction in the value of a fixed asset (like equipment and machinery) over the period that it is useful to you. In other words, it represents the wear and tear that an asset experiences as it serves the business. Depreciation is recorded as a cost in the profit and loss statement. If you use the asset directly to produce goods and services, then the depreciation associated with it will be a direct cost. If otherwise, then record it as an indirect cost.
Abbreviated as EBIT, earnings before interest and taxes shows the company’s profit including all incomes and expenses, but less income tax and interest expense. There are several ways of calculating EBIT, but the most straightforward is to subtract cost of goods and operating expenses from revenue.
The difference between EBIT and EBT is that the latter includes interest expense while EBIT deducts it. To find EBT, take the revenue and subtract cost of goods, operating expenses and depreciation.
The net income of a business is its revenue (including all other income sources) minus the cost of goods sold as well as all the direct and indirect costs. It is your net profit or net loss, and it’s the whole point of preparing a P&L statement – to determine whether or not the business made a profit and how much of it.
If your profit and loss statement for a small business shows a profit, then it means that your company recorded far more revenues than costs. But if you made a loss, it means that your costs exceeded revenues and you need to evaluate your business model so that it becomes profitable.
Preparing a small business or self employed profit and loss statement is only half the work. It’s very important that you also analyze it in detail. A proper examination of your statement will give you insight into your business operations, highlighting strengths and flagging weaknesses.
Most small business owners don’t usually have a precise or correct answer when asked “how profitable is your company?”. A rightfully prepared income statement will provide the definitive answer. It clearly shows how your business generates money (revenue), how it spends it (expenditure) and what remains after all the costs are accounted for (income). By analyzing the statement, you can get a better view of your firm’s profitability and so much more.
Here’s a step-by-step guide on how to analyze a profit and loss statement:
Step 1: Examine sales
Very rarely will sales be equal each month of the year. Thus, look at your standout months and try to identify the elements that drove your success. For example, did you intensify a marketing campaign? Or perhaps there were discounts that drove sales. Whatever the case, you’ll want to do more of that to bump in sales some more. At the same time, look at the sources that bring the most revenue and prioritize them when allocating resources in future.
Step 2: Look at expenses
What are your company’s biggest expenditures? Are their amounts justifiable based on your type of business and industry? If not, consider ways of reducing or even completely eliminating them. The same applies to smaller expenses that eat into profits.
Step 3: Analyze income
At the end of the day, businesses exist to make profits. You’ll want to know that the amount of money your business is making reflects growth. If the company consistently makes losses, then it would make more sense to consider overhauling your business model.
Step 4: Calculate margins and ratios
The most important ratio that arises from a profit and loss statement is the gross profit margin. The higher it is (relative to 100%) the more profitable your business is. If your gross profit margin tends towards zero, then it means your business is not making enough revenue compared to costs and expenses. Beyond the gross profit margin, you’ll also want to evaluate the net profit margin, stock turnover rate, labor to sales, and materials to sales ratios.
Step 5: Do a historical comparison
Having your most recent P&L statement is good, but having year-on-year statements is even better. Use them to measure how your company has been performing over the years. Are there significant drops in sales? Did a change in business structure or model affect revenue and expenditure? By comparing historical P&L statements, you can better monitor the business’s performance.
Step 6: Look at trends
Are revenues increasing over time? What about expenditure? Is your profit growing or shrinking? Again, you can get a clearer picture by comparing year-on-year P&L statements. Ideally, you want both revenue and net income to grow faster than costs and expenses.
Step 7: Make projections
Use your company’s profit and loss statements to predict future revenues and cash flows. These will help you when budgeting and planning for finances. Plus, you’ll see exactly what lenders and investors see when they examine your company’s financials.
Step 8: Compare with similar companies
An invaluable benefit of a profit and loss statement is that it can help you weigh your business against similar businesses. As long as you can access their financials, you’ll be able to tell how far off or how far ahead you are against your competition in terms of generating revenue and profit. Ultimately, you’ll know whether you’re playing catch up or leading the pack.
The best way to prepare a profit and loss statement is to present all your business revenues and expenses on a spreadsheet. As mentioned, there are several spreadsheet applications that you can use, including Microsoft Excel, Google Sheets, EasyCSV and Smartsheets. Choose one that you’re most comfortable with and follow the following steps to prepare a P&L statement.
Choose a timeframe
As previously mentioned, you can prepare a monthly, quarterly or annual profit and loss statement. The problem with monthly statements is that you probably won’t have enough data to yield a meaningful statement. Annual P&Ls, on the other hand, might have you digging for data as far back as 11 months ago. For that reason, your best bet is going with quarterly statements.
Determine income and expenditure
When preparing a P&L statement, you’ll only use two accounts: income and expenditure. Income includes your sales, revenue, interest income, rental income and fees for services. Of course, you’ll only pick entries that are relevant to your business.
Expenditure, on the other hand, covers all expenses. These include cost of goods sold, payroll expense, insurance, taxes, rent and interest on business loans.
Make sure to pick income and expenditure for the timeframe that you chose. If you’re preparing a monthly P&L, then ensure that all values relate to that month.
Enumerate all the sources of your business income, breaking them down by source. Assume that in addition to sales, your business also received income from services offered as below.
Additionally, a few of the goods you sold were defective and therefore sent back by customers. These are usually called “sales returns” and have to be deducted from sales. Your income would look as follows:
Account for the cost of goods sold
These are expenses that can be directly attributed to the production and sale of your goods and services. List them, including the associated service labor. Assuming that you spent $20,000 on raw materials and an additional $12,000 on labor, your new P&L would look like this:
Find gross profit
You can get your gross profit by deducting the total cost of goods sold from net sales. From the running example, gross profit would be:
List operating expenses and find their total
Your OPEX are all the indirect expenses incurred when running the business. They include things like payroll, utilities, insurance, office supplies, advertising etc. Here’s an example on how to account for operating expenses in a profit and loss statement.
Calculate net profit
This will tell you whether or not your business is making money. To find the net profit in a profit and loss statement, deduct expenses from gross profit. If the net profit is positive, then the business is making money. If it’s negative, then you’re recording losses.
Note that there are accounting software like QuickBooks and Xero that can generate instant profit and loss statements for you. All you need to do is enter your income and expenditure values and they’ll calculate the rest. They make great alternatives to preparing your own P&L statement, particularly if you don’t feel ready enough to take on the process of preparing the statement.
Rather than starting to prepare your P&L from scratch, check out this profit & loss statement template for free and use it to prepare your business’s income statement. It comes complete in a spreadsheet with built-in formulas, so you won’t have to calculate anything. Simply replace the values with the ones from your business and remove entries that are not relevant to your company.
Below is a profit and loss statement example that has been extracted from the hypothetical company above.
That’s how a P&L would appear in a real-life scenario. However, you can shrink the information so that your income statement doesn’t itemize revenue, cost of goods and expenses. In which case it would appear like this:
This is a good way to simplify your P&L. The downside is that it neither itemizes sources of revenue or expenses, which leads to a lack of detail. Therefore, if you have the option to choose, always go with the more detailed option of preparing a profit and loss statement.