Profit and loss (P&L) is a business statement that shows your business income combined with your day-to-day running costs. A P&L statement forms a crucial part of your cashflow forecasting and business planning to enable you to raise finance.
You will need to have a profit and loss statement as part any business plan you submit to potential lenders or investors that you approach for funding so that can assess the risks of providing funding.
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- What is a P&L statement?
- Why is it important?
- How to create a P&L statement
- Software
- How often should I review my P&L statement?
- Planning
What is a P&L statement?
In simple terms a profit and loss statement is a list of all your business transactions that subtracts total outgoings from total income to give you an indication of any profit you have made or will make in a specific time period.
You could view it as sales minus the sum of the cost of sales, overheads and depreciation.
A P&L statement is a vital health check for your business. It shows what net profit and loss your business has made within a specific accounting period after deducting all expenditure from the income.
Your business will have earned a net profit if the total expenditure is less than your sales and a net loss if it is greater.
Why is a P&L statement important?
Lenders will want to know how your business is doing so they can gauge the risk of lending to you. Investors want to know if they are likely to get a return on their investment. A healthy profit means that they are likely to and your P&L statement will reassure them.
If you are a new business, you will need to provide a pro forma P&L statement that will be a projection of your likely future performance. Lenders will use this as part of your business plan to assess the risk of lending to you.
You are required to produce a P&L statement for each financial year. Even if you don’t have to produce one, it’s a useful document to give your investors and shareholders
How to create a profit and loss statement
Revenue is cash flowing into your business from sales of goods and/or services less any discounts, returns or other allowances.
Expenses exhibit cash flowing out of your business comprising all the costs associated with running it. These include the costs of producing and selling your goods or services, such as materials, wages, selling expenses such as advertising and shipping. Expenses also include administration costs such as insurance, utilities and depreciation of equipment and the fabric of your premises. You should also include the cost related to recent R&D.
Your P&L statement takes your gross income (the total of all money that comes in from your sales to customers), and subtracts any discounts or allowances (for example, for early payment or bulk purchases), giving you your net income. The P&L subtracts the cost of sales (for example, total unit costs, packaging and delivery) from your net income to give you your gross profit figure.
Then it takes away overheads (sometimes called fixed costs). These include the rent for your premises, marketing costs, wages, telephone, postage, and stationery etc. This leaves your operating profit.
You then add in any other income (for example, from machinery sales, rent from tenants in your office space etc) to give you your profit before tax.
Take the tax away from profit before tax and you have your net profit or loss.
NB: Remember to exclude VAT from the above
Software
Most accounting software packages set out P&L and balance sheets in a way that’s easy for laymen to understand. Manual bookkeeping systems which explain clearly how and where entries in each should be made are also available, but these are becoming rarer. It doesn’t matter which of these you use to record your P&L as figures are usually set out in a similar way.
A quick web search will return plenty of options.
How often should I review my P&L statement?
Every business needs to prepare and review its profit and loss statement periodically – at least every quarter. Reviewing the profit and loss statement helps the business make decisions and to prepare the business tax return. Your business tax return will use the information from the P&L as the basis for the calculation of net profit, to determine the tax your business must pay.
Planning
Understanding your profit and loss is a vital part of your business planning process, which in turn is critical to securing the funding you need to keep your business on an even keel.
A strong business plan is a must for all businesses. It’s about more than simply mapping out your journey, it’s about producing a formalised and structured document to support any application for external funding.