There is the customer’s perception of how the business is doing. There is the owner’s story of how the business is doing. And then there is the P & L story of how a business is actually doing. The true story. If all information and data is input accurately and completely, the P & L tells the truest story of how your business is doing.
For businss owners, there are many important documents to learn to read. One of the most important is the profit and loss statement, known as the P & L, and the balance sheet. This video will focus on how to read the profit and loss statement.
The Profit and Loss Statement tells you a lot about how your business is doing. It can also help you to determine ways that you can go about saving money so that you get to bring more money home!. Basically, the P&L statement measures all of your income sources verses all your business expenses for any given period of time.
Why read a P & L?
One of the benefits of reading your profit and loss statement is to compare the current year’s income and expenses to those of the previous year. This would indicate if the decisions you are making about your business are helping you to make more money or less money.
Another benefit to reading your P & L is that it will let you know whether there is a steady amount of growth in revenue and net income in your business.
After reviewing your profit and loss statement, you might end up choosing not to create new products and/or find new markets. In the stead, you might choose to focus on how to increase your net income within your current market. In other words, spend time creatively marketing current products to your existing customer base, while minimizing your costs.
That is something you might consider. You might also decide to cut back on certain activities that aren’t making as much money. OR, you may decide not to sell the types of products that are making less money. Eithre way, the profit and loss statement can help you make strategic decisions about your business, alongside your overall business plan.
Below are some other reasons for reading your P & L every two weeks or so. I think its good to read them every two weeks minimally. Some people don’t read them but once a quarter. It just depends on what works best for you. But definitely learn to read them.
- P & L’s help you to answer the question, “How much money am I making?”
- P & L’s help you to compare your projected performance with actual performance;
- P & L’s help you to compare your performance against industry benchmarks and standards
- P & L’s also help you to use past performance trends to form reasonable forecasts for the future of your business;
- P & L’s help you to show your business growth and financial health over time;
- P & L’s help you to detect any problems regarding sales, margins, and expenses within a reasonable time so adjustments may be made to recoup losses or decrease expenses;
- P & L’s help you to provide proof of income if you need a loan or if you are applying for a mortgage.
- P & L’s help you to calculate your income and expenses when completing and submitting your tax returns.
Overall, the P & L is a great tool for helping you to succeed in your business.
How do you read a Profit & Loss Statement?
Generally, your P & L will be broken down in to the following categories.
Sales, gross profit, cost of goods sold, operating expenses, operating profit, other income and expenses, net profit before taxes, and net profit after taxes. I am going to briefly explain each of these categories to you.
Sales: This is the section that depicts the gross revenues generated from the sale of products and or services less the returns, which would be cancellations, and allowances, which would be the reduction in price for discounts taken by customers. Usually a profit and loss statement will list each specific customer and how much each paid into the business in terms of revenue.
Gross Profit: The gross profit represents the amount of direct profit associated with the actual manufacturing of the products and services. It is calculated as sales less the cost of goods sold. Its good for determining how much of a mark up you can make on sales.
COGS: Cost of goods sold represents direct labor, raw materials, inventory purchased, freight in, other materials used, and other costs directly related to the products and services that are sold.
OE: Operating expenses includes the expenditures your business had in order to operate. Items like rent, utilities, office supplies, some salaries, some labor, and some shipping are the kinds of items that make up operating expenses.
Here is an equation that will help you determine your operating profit. Your operating expense minus gross profit will equal your operating profit
Other income and expenses represent those items that are unrelated to the day-to-day operating expenses of the business. For example it could be the buying and or selling of rental property or investments; Other income and expenses could also be interest expense on debt such as loans, interest payments earned on savings and other types of investment accounts that don’t have much at all to do with what the business does.
Operating profit plus other income minus other expenses is what gives you your net profit before taxes, also known as NPBT.
NPBT: This is the best measure for comparing one business against another. Simply because the taxes may vary from state to state. And so since taxes are deducted from you NPBT, when determining the value of a business, your net profit before taxes is a better measure from one state to another if you are comparing businesses.
From your net profit before taxes you subtract your taxes and that will give you the net profit. This gives you the BOTTOM line earnings of your business. It is called Net profit after taxes or NPAT.
NPAT: Your net profit after taxes is the total amount of profits during any specific period of time. The total profit can be a large amount, if the business performed well during that period. Or it could be a negative number, if your business spent more than it brought in, in revenue during that specific period of time.
Depreciation: Let’s talk briefly about Depreciation. It results when a company purchases a fixed asset and expenses it over the entire period of its planned use, not just in the year purchased, but for the entire period of its use. This section exists largely for tax purposes. Many businesses must show how the equipment and supplies that they own over the course of a year have diminished in value. And depreciation is a non-cash expense in that the cash flows out when the asset is purchased, but the cost is taken over a period of years depending on the type of asset.
Reading your profit and loss statement is how you can determine – the true story of your business.