What is a Profit and Loss Statement?
Breaking Down the Profit & Loss Statement (P&L)
If you’re a business owner, understanding your Profit & Loss Statement (also called the Income Statement) is crucial for financial success. This document tells you if your business is making or losing money over a specific period—monthly, quarterly, or annually. Let’s break it down in simple terms.
How to Read a Profit & Loss Statement
A P&L Statement follows a straightforward structure:
1. Revenue (Sales)
Total money earned from selling products or services.
Trends to lookout for: Is revenue increasing or decreasing over time? Is a particular product or service driving the majority of revenue? Is there a product or service that isn’t driving any revenue or very little?
2. Cost of Goods Sold (COGS)
Direct costs to produce goods or services (e.g., materials, labor).
Lowering COGS can improve profitability.
3. Gross Profit
Formula: Revenue - COGS
Shows profitability before operating expenses.
4. Operating Expenses
Fixed and variable costs of running the business (e.g., rent, payroll, marketing).
Keeping expenses in check ensures sustainable profitability.
5. Net Profit (Bottom Line)
Formula: Gross Profit - Operating Expenses - Taxes
If positive, you’re making money. If negative, it’s time to assess costs or revenue strategies.
EBITDA, EBIT, Net Income are all places business owners look for “profit”
Want to learn more about profit? Check out my other blog >> https://financefightclub.com/blog/profitability-isnt-real
Key KPIs Business Owners Should Monitor From Your Profit & Loss
KPI = KEY PERFORMANCE INDICATORS
To track financial health, focus on these Key Performance Indicators (KPIs):
✅ Gross Profit Margin = (Gross Profit / Revenue) x 100
Why it matters: Measures profitability before expenses. Higher is better!
✅ Net Profit Margin = (Net Profit / Revenue) x 100
Why it matters: Shows how much of every dollar earned turns into profit.
✅ Operating Expense Ratio = (Operating Expenses / Revenue) x 100
Why it matters: Helps monitor cost control and efficiency.
✅ EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization)
Why it matters: Measures core profitability, excluding financial and accounting adjustments.
In my opinion: Owner’s Compensation is more important than EBITDA, but it all depends on the goal of the business.
How the P&L Connects to the Balance Sheet & Cash Flow Statement
Your P&L doesn’t exist in a vacuum—it ties into two other essential financial reports:
Balance Sheet Connection: Net Profit from the P&L increases your equity on the Balance Sheet. If your business takes on debt to cover losses, liabilities grow instead.
Cash Flow Connection: Profit doesn’t always mean cash in hand. A positive P&L with negative cash flow could indicate late customer payments or overspending on expenses.
Final Thoughts: Why Your P&L Matters
Your Profit & Loss Statement is a financial roadmap—it helps you:
✔ Identify trends in revenue and expenses.
✔ Make strategic decisions based on profitability.
✔ Ensure your business remains financially sustainable.
If you’re unsure how to interpret your numbers, get help from a CFO or financial expert. Want more insights?
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