If you're thinking of starting a business, you're probably worried about all the bookkeeping involved. The good news is that it's not as hard as you might think. However, there are a few basic terms you'll need to know before you get started. One of them is a profit and loss statement.
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A profit and loss statement is a document that shows how the revenue of a business is turned into the net income of a business. This is accomplished by subtracting all the expenses from the income. Some profit and loss statements are very simple, while others are extremely complex. While profit and loss statement may seem like a foreign term to many, it goes by many other names you may have heard. These other names include: P&L, income statement, earnings statement, revenue statement, operating statement, statement of operations, and statement of financial performance.
Why profit and loss statements are important
Profit and loss statements are important because many companies are required by law or association membership to complete them. Aside from this, a profit and loss statement will help the company to understand their net income, which may be helpful in decision-making processes. For example, a business owner may consider whether his or her company is bringing in enough of a profit to justify renovating their building or expand or grow in other ways.
You will also likely need a P&L if you are considering applying for a small business loan.
The components of a profit and loss statement
Most profit and loss statements are composed fairly similarly. In the first section, the cost of sales is subtracted from the revenue, which presents the gross profit. In the next section, the operating expenses are deducted from the gross profit, leaving the operating profit. Then, non-operating revenues and expenses must be factored into account. At the end of this, the total profit or loss will be displayed. An income statement is usually completed on a yearly basis. The P&L statement is often used to prepare for tax time. However, the P&L statement may also be used to inform employees or shareholders of a company's performance, or to just provide information on the company's performance to the business owner. P&L statements are often also used as proof of income in the sale of a business.
Creating a P&L
Though a profit and loss statement is one of the more complicated bookkeeping practices of a business, anyone can do it with a little bit of knowledge and practice. However, many business owners choose to instead hire a bookkeeper or an accountant to take care of this work. If a business owner is not good at math, or does not have the time to create a P&L, then hiring an outside worker to complete this task is most likely the best option.
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