What is a profit and loss statement?

Do you want a better understanding of your business’s financial health? A profit and loss statement is the key to informed decision-making, sustained growth and success for your business.

As a business owner, one of the most critical tools for monitoring your company’s financial health is a profit and loss statement, also called P&L statement. This financial document provides a clear and concise snapshot of your business’s revenues, expenses, and profitability over a specific period. 

Whether you’re running a burgeoning startup or managing a seasoned business, mastering the P&L statement is key to making informed decisions that drive business success. Let’s explore how to create one, interpret the data, and how businesses and sole traders can apply this knowledge.

What is a profit and loss statement?

A profit and loss statement is a financial document that summarises the revenues, costs, and expenses incurred during a specified period, usually a fiscal quarter or year. You start with revenue and then subtract the costs of doing business, including the cost of goods sold, operating expenses, taxes, and more, to calculate the net profit or loss (the bottom line).

How to set up a profit and loss statement

1. Compile all revenue sources to determine your total income.
2. Itemize your cost of goods sold (COGS), which includes all expenses directly associated with the production of goods or services your business sells.
3. Deduct COGS from your total revenue to find your gross profit.
4. List and calculate operating expenses, which could range from rent and utilities to marketing and employee salaries.
5. Subtract operating expenses from gross profit to reach operating profit.
6. Include any other income or expenses, such as investments or interest.
7. Calculate your net profit or loss by accounting for taxes.

The resulting figure will give a clear insight into your business’s profitability during the reporting period.

Download our free profit and loss template.

How to interpret a profit and loss statement

Interpreting a P&L statement involves looking beyond the numbers to understand the story they tell about your business:

Revenue: Assess whether sales figures are growing or declining over time.

COGS and gross profit: Consider the margins and whether they are sufficient to cover operating expenses.

Operating expenses: Look for areas where costs might be reduced.

Net profit or loss: This final number tells you if your business is profitable or operating at a loss.

Read also: How to make a budget

Profit and loss statement for small businesses

For small businesses, a profit and loss statement is an invaluable tool for tracking performance, identifying downwards or upwards trends, and making strategic business decisions. It helps you to focus on key areas of your business that can be optimized for better financial performance, and can be everything from controlling costs to increasing sales revenue.

Profit and loss statement for sole traders

Sole traders in will find a profit and loss statement particularly useful for reporting business income in the tax return. The simplicity or complexity of the income statement can vary according to the size and transactions of the business. As a sole trader, a P&L statement not only helps in tax preparation but also serves as an essential gauge for the business’s viability and sustainability.

Whether you’re a small business owner or a sole trader in, understanding how to create, read, and interpret a profit and loss statement is essential for financial management and strategic planning. With a P&L statement, you can evaluate the profitability of your business, make informed decisions, and set up your business for long-term success. Remember that the P&L is not just a retrospective tool but a compass that can guide you toward a more profitable future.