A profit and loss statement, also known as an income statement, is a financial report that displays your total business income, total costs (what you pay to produce your product or perform your service), total expenses (what you pay in overhead), and net income for any given period.
While you can generate a profit and loss (P&L) statement for any time frame during the fiscal year, the most common accounting periods are monthly, quarterly, and annually.
Get the Profit and Loss Statement Template for free.
Why do I need a profit and loss statement?
At its most basic level, a profit and loss statement shows if your business is profitable and if your model is sustainable. (Potential investors will want to see this if you’re raising capital to grow your business or startup.) Your business profits when it earns more than it spends. If you have a loss, it means your business is spending more than it earns.
You can use a profit and loss statement to answer overarching questions about your business plan, such as:
Do I have enough revenue to cover my costs and business expenses?
Do I have a high return on investment for my expenses?
Does my business earn enough money to pay me, the owner?
Your profit and loss statement can also give you insights about the details of your day-to-day operations, like:
Your top earning revenue streams
Your gross margin (the ratio of your cost of goods sold to your company’s revenue)
Your lowest-earning revenue streams
Your top spending categories
Where you can reduce your spending
Over time, your profit and loss statement can also show you:
Your business’s growth over a specific period of time
The areas of your business impacting its revenue growth
The areas impacting your company’s profitability
Sales trends and patterns
Yes! You can get all of this from one little report, which is why a profit and loss statement can be so impactful for self-employed small business owners.
How is a profit and loss statement structured?
A profit and loss statement has five sections:
Total income (or total revenue, as in sales)
Cost of Goods Sold (COGS)
Expenses
Other Income/Expenses
Net Income
Here is a profit and loss statement example:
My Awesome Company Profit and Loss January - December | ||
| TOTAL | |
Income | $87,763.99 | |
Costs of Goods Sold | $9,328.00 | |
GROSS PROFIT | $78,435.99 | |
Expenses | $5,707.06 | |
NET OPERATING INCOME | $72728.93 | |
Other income | $43.12 | |
Other Expenses | $10,721.88 | |
NET OTHER INCOME | $10.678.76 | |
NET INCOME | $62,050.17 |
Let’s talk about the first four sections first: income, COGS, expenses, and other income/expenses.
All four of these sections are structured the same way. There’s a line for every income or expense category and subcategory that you use in your business. Each line shows you the total earned or spent in that category for the time period that you’re creating the P&L statement for.
If you use subcategories in your accounting, you’ll also see a subtotal of the subcategories directly under the list of itemized subcategory amounts.
At the very bottom of the income, COGS, and expense sections, there is a total for that section, so you can see the total amount you spent or earned.
The final section of a profit and loss statement is your Net Income.
Net Income = (Income – Costs of Goods Sold – Expenses – Other Expenses) + Other Income
If your net income is a positive number, it means that you earned more than you spent and you have a profit. If your net income is a negative number, it means you spent more than you earned and you have a loss.
What else should I know about profit and loss statements?
Along with the general “total” lines of the five main sections we just went over, there are a few other “total” lines on a profit and loss statement.
First, under the COGS section, there is a line called Gross Profit.
Gross Profit = Revenue – Costs of Goods Sold
Gross profit shows you how much you actually earned after you take the costs of selling your product or service out of your revenue. Your gross profit is what’s available to put towards operating expenses. (It’s what you can put back into your business!)
The next special “total” line is called Net Operating Income, which is included in the Expenses section of your profit and loss statement.
Net Operating Income = Income – Costs of Goods Sold – Expenses
This is your net income after you subtract your operating expenses and costs from your revenue. Net Operating Income does not include irregular income or expenses. Instead, it’s the money that’s left (or not left) after your day-to-day operations.
Irregular income and expenses—ones not related to your day-to-day operations—are included in the Other Income/Expenses section of your profit and loss statement.
Just like you wouldn’t count a $10 birthday check from your grandmother as part of your monthly income and budget, irregular income is split out on your profit and loss statement. That way, you can easily see and discount uncommon income and expenses and budget around them.
Examples of Other Income are:
Dividend income
Interest earned
Income from investments
One-time income from an unusual source
Examples of Other Expenses are:
Reimbursable expenses
Taxes or penalties
Depreciation or amortization
One-time extraordinary expenses (like legal fees)
Your Net Income includes all your expenses for the time period, even the unusual ones. The Net Operating Income line is better for gauging the profitability of your day-to-day operations.
What isn’t shown on a profit and loss statement?
A profit and loss statement only shows your company’s income, costs, and expenses. A company’s assets, liabilities, and equity do not appear on that financial statement and are on the balance sheets (also referred to as statements of financial position). While some of the same information is listed on both a balance sheet and a P&L statement, note that they are different financial documents.
Assets can include:
Purchases of furniture, equipment, machinery, tools, and vehicles
Money lent to others
Security deposits paid
Liabilities can include:
Credit card payments
Loan payments
Sales tax payments
Equity can include:
Owner distributions
Money invested by the owner
Many people confuse profit with cash that’s available to spend, but the two are not the same! That’s why it’s important to understand what’s not included in your profit and loss statement.
You can have profit and still have negative cash flow, especially if you have a lot of liability payments or need to take owner distributions. If you see a profit on your report, don’t assume that all that money is available for you to spend! (To understand more about the money movement in and out of your company, you need a cash flow statement, which is a separate financial document from a balance sheet or P&L statement.)
How do I prepare a profit and loss statement?
A profit and loss statement can be prepared using a digital bookkeeping program like Xero. (Some programs will call the profit and loss report an income statement. Whatever it’s called, the report will be structured the same and can be run for any time period that you specify.) Or you can opt to hire a bookkeeper to prepare this report for you.
If you don’t have a bookkeeper or use accounting software to automate the process, then you can prepare your own profit and loss statement by using this template. You can also set up and maintain a spreadsheet with Microsoft Excel or Google Sheets.
Add line items for all your revenue, costs, expenses, and other income/expense categories, and then add up the categories in each section. At the very bottom, create a line for net income (aka the “bottom line”) and subtract your costs, expenses, and other income/expenses from your revenue. Voila—you’ve used the P&L template to create your very own profit and loss report!
And that’s it! Getting to know your profit and loss report will help you understand the big picture—and the tiny details—of your company’s financial health, along with its financial performance.
FAQs
How often should a profit and loss statement be prepared or updated?
You should have profit and loss statements for every month, quarter, and year. It’s a good idea to look over your monthly P&L numbers to make sure your spending and sales are right on a regular basis, but it’s also important to zoom out and consider quarterly and yearly trends, too.
How does a profit and loss statement differ from a balance sheet or cash flow statement?
A profit and loss statement is the most comprehensive financial report. It shows your total business income, total costs, total expenses, and net income for any given reporting period, whereas a balance sheet only shows your business’s total assets and liabilities and a cash flow statement tracks your business’s incoming and outgoing cash.
What common mistakes should be avoided when preparing a profit and loss statement?
When you’re preparing your profit and loss statement, it’s important to be as accurate and precise as possible. Common mistakes include misclassifying your expenses, ignoring your gross profit margins in favor of looking only at your gross revenue, and not updating your P&L regularly.
How do taxes factor into a profit and loss statement?
Income taxes are included in a profit and loss statement under your expenses. Once you deduct your income taxes, you’ll be able to see your net profit.
