Starting a small business means being both an investor and an accountant. Managing your finances is part of the job. Even if you have a certified public accountant (CPA), it’s good to know what reports and statements are prepared for your business.
A profit and loss statement, also known as an income statement, is one such report.
What is a profit and loss statement?
A profit and loss statement is a financial statement that summarizes your company’s revenue, costs and expenses incurred during a specified period (e.g., a month, a quarter or a year) and includes net profit.
If your company is publicly held, financial statements which include a profit and loss statement, a balance sheet, a cash flow statement and a statement of shareholders’ equity are included in the quarterly and annual reports you must file for your company. Financial statements allow you and your shareholders to see how the business is performing, providing a complete financial picture of your company.
Benefits of a profit and loss statement
There are many benefits of preparing and referring to a profit and loss statement, including:
- Get a snapshot of your company's current profit for a period: With a profit and loss statement, you can immediately see if your company is generating a profit. While determining expenses, search for ways to lower your company’s costs or increase its revenue.
- Compare your current profit and loss to past financial periods: Is your company growing? Are you increasing profits? If so, how quickly? It’s helpful to compare your current and past profit and loss statements to see where you can improve.
- Attract investors: New and existing investors will want to see periodic profit and loss statements to know how your company is performing financially.
- Prep for financing:If you apply for abusiness loanor want tofinance new equipment, a bank will likely ask to review your profit and loss statement.
You can ask your accountant to prepare a profit and loss statement for your company or you can build one yourself using the steps below.
Gather what you need
Start with determining the time period (e.g., a month, a quarter, a year) for which you want to prepare your profit and loss statement and the format you’d like to follow.
To prepare your profit and loss statement, you will need to collect all financial transactions during that time period, including:
- All sources of revenue; including sales, interest income, rental income and fees for services and any reductions to sales, both returns and discounts.
- All expenses incurred such as purchases of materials and other assets, salaries (total compensation), interest expenses on business loans, insurance, rent and taxes
Once you have your financial documents in order, follow the steps below to prepare your profit and loss statement.
Note that expenses are recognized when incurred, not when they are paid. Similarly, revenue is recognized when earned, not when cash is collected.
Step 1: Determine your company’s revenue.
Add up all forms of revenue earned. Obtain all sales and returns from your general ledger, during your chosen period of time (e.g., a quarter).
Step 2: Calculate your company’s cost of goods sold.
Your total cost of goods sold can be calculated by taking your beginning inventory, adding all purchases, freight costs, direct labor costs and a portion of indirect expenses and subtracting your ending inventory.
Step 3: Calculate your company’s gross profit/loss.
Gross profit/loss is calculated by subtracting the cost of goods sold (Step 2) from total revenue (Step 1).
Step 4: Determine your company’s operating expenses.
Calculate your company’s operating expenses by totaling all indirect business costs, such as:
- Administrative overhead
- Rent
- Travel
- Payroll
- Depreciation and amortization
- Utilities
- Postage
Step 5: Calculate your company’s operating profit/loss
Calculate your company’s operating profit/loss, by subtracting the operating expenses (Step 4) from gross profit/loss (Step 3).
Step 6: Determine any other income, other expense, interest income and interest expense.
Other income and other expense typically include non-recurring items, for example, gain or loss from the sale of an asset (e.g. equipment).
Interest income includes any interest receivable, for example, from the company’s cash held in bank accounts.
Interest expense includes any interest payable on the company’s debts, e.g., business loan.
Step 7: Calculate your company’s income tax expense.
Income tax expense for the period is calculated by multiplying the taxable income with the tax rate.
Step 8: Calculate your company’s net profit/loss.
To calculate net profit, also referred to as profit after tax, take your operating profit (Step 5) and add other income and interest income (Step 6) and subtract other expense and interest expense (Step 6) and tax expense (Step 7).
Net profit is commonly referred to as a company’s “bottom line” and is an indicator of a company’s profitability. Calculating net profit is the final step in preparing your profit and loss statement.
Now that you know how to prepare a profit and loss statement, find examples andtemplatesonline to help you get started.
Once you’ve put together your profit and loss statement, use it to identify areas where you can improve the financial health of your business. Meet with your Chase business banker to determine if you’re ready for abusiness banking account, in need offinancingor ready toapply for a business credit card.
