What is a Profit and Loss Statement (P&L)?

Definition and Examples of the Profit and Loss Statement (P&L)

It is a financial report that outlines revenues and expenses over a specific time period. The profit and loss statement shows the income and expenditures that lead to the company’s profits (or losses). It tracks the flow from revenues to net profits. For example, you can determine whether a company is spending more than it earns on production, and you can view operating profits independent of financing costs and taxes.

How Does the Profit and Loss Statement Work?

Over time, a story of profitability (or losses) unfolds as you progress through income and expenses step by step. The income statement starts with revenues and moves to expenses that ultimately result in the organization’s profit or loss. If there are any parts or materials needed, their costs typically fall under the cost of goods sold. This results in gross profit. Next, the statement subtracts any necessary expenses for operating the business, such as employee salaries, utility bills, maintenance costs, and other expenditures. The result is operating profit. At this stage, you can see how effectively the company is delivering goods or services at a profit. In addition to understanding the ability to operate at a profit, it is crucial to know what the bottom line is after all taxes and interest costs. If the organization has taken out loans, excessive interest costs can wipe out any profit. By examining interest expenses, you can assess whether companies are using debt wisely. Additionally, taxes are a reality for many companies, so it’s important to know what the net profit is after all necessary costs have been settled. After subtracting everything, including raw material costs, operating expenses, financing costs, and taxes, you arrive at net income.

Analyzing Profit and Loss Data Over Time

The profit and loss statement is a snapshot of financial results for a specific period. However, this information may not be useful unless you understand the bigger picture. By reviewing how the profit and loss statement changes over time, you may be able to identify trends. For instance, if the cost of goods sold has significantly increased, it may indicate a future decline in profitability (or just a temporary spike in input prices). Therefore, it is essential to view each profit and loss statement as a piece of the puzzle.

Other Financial Statements

The profit and loss statement provides valuable insights into income and expenses. However, to gain a complete view of the organization’s financial health, it’s wise to review other financial statements as well. One should analyze how these reports change over time in any financial statement. It may also be helpful to compare data with competitors and others in similar industries.

Balance Sheet

The balance sheet outlines the company’s assets, liabilities, and equity. Assets, which appear on the left side of the balance sheet, are things that the company can sell or use to generate revenue. Liabilities, on the right side, represent payments or obligations that may reduce profits. Finally, equity is the value of the company if you meet obligations and have remaining assets.

Cash Flow Statement

The cash flow statement details changes in cash. Given the importance of liquidity in keeping business operations ongoing, the ability to manage cash is crucial. It can be easy to confuse the cash flow statement with the income statement. However, the profit and loss statement separates the concept of financial profit, which may not affect cash flow in the ways you expect. For example, depreciation is a “expense” in the profit and loss statement, but it is an accounting concept, not a cash flow. The cash flow statement focuses on actual outflows and inflows.

Source:

https://www.thebalancemoney.com/what-is-a-profit-and-loss-statement-5195531