Profit And Loss Statement Definition

A profit and loss statement, or profit and loss account, summarizes the revenues, costs and expenses a business incurs during a specific period of time, often the fiscal month, quarter, or year. As the name indicates, the profit and loss statement allows business owners to discover where they are making or losing money. Using the insights it provides, management can then discuss ways to become more profitable, whether that is through increasing revenue or reducing costs. The P&L statement is also known as a “statement of profit and loss”, an “income statement” or an “income and expense statement”. It is one of the ‘Big Three’ accounts publicly listed companies are required to disclose, alongside a balance sheet and a cashflow statement. Virtually every company will use it in their accounting.

Why Prepare A Profit And Loss Statement?

Producing regular profit and loss statements enables a business owner to answer the most fundamental question of business – ‘How much money am I making, if any?’. If money isn’t being made, a business is failing its owners! Profit and Loss statements can also help compare actual performance with projected performance, and against industry benchmarks. They can help make plans for the future, and allow management to detect any problem regarding sales, margins, and expenses quickly enough to act to either recoup losses or decrease expenses. Finally, a profit and loss statement helps calculate income and expenses when a business must complete and submit its tax return.

How Is A Profit And Loss Statement Created?

A profit and loss statement is built upon two simple equations, which give us figures for gross and net profit.  Although the terms used may vary, the actual formula stays the same.

• Gross profit = revenue from sales – COGS (cost of goods sold)
• Net profit = gross profit – expenses

How does this work in practice? Well, let’s consider the following example, where a business – let’s call it a shoe company – has sold £500,000 worth of its wares in the fiscal quarter. However, the cost to make and produce those great shoes has been £200,000. This allows us to work out our gross profit figure. In the following example, and in all financial statements, ‘less’ just means ‘minus’ or ‘subtract’.

Sales £500,000
less Cost of good sold (COGS) £200,000
Gross Profit £300,000

Now we have our gross profit, we’re able to work out our net profit figure. Remember, net profit is calculated by subtracting a business’ remaining expenses (which aren’t related to the production and sale of its goods) from the gross profit figure. This might include the cost of rent for the business’ retail outlets, repaying its creditors, or the depreciation or amortization of assets. Let’s see what that looks like:

Gross Profit £300,000

less Expenses £250,000
Net Profit (before tax) £50,000

…And that’s really all there is to it! Let’s have a look at that in full. Notice how the ‘less’ figures are each subtracted from the total sales figure when the statement is seen in full (i.e £500,000 – £200,000 – £250,000:

Sales £500,000

less Cost of good sold (COGS) £200,000
Gross Profit £300,000

less Expenses £250,000
Net Profit (before tax) £50,000

You’ve just read and (hopefully) understood a business profit and loss statement!

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