Glossary of Human Resources Management and Employee Benefit Terms
A profit and loss statement, also known as an income statement, is a financial report that shows a business’s net income by subtracting total costs and expenses from total income and revenue. This is an important report because it clearly shows a business’s financial health and profitability, and it also measures the success of an organization’s business strategy. Usually, profit and loss statements are generated quarterly and annually.
A profit and loss statement shows a business’s revenues and expenses over time, but there are many different types of revenue and expenses that an organization needs to track and record in their profit and loss statement. Here are some of the key categories:
Revenue: This includes sales of products or services and recurring revenue that isn’t directly tied to your business operations, like rental income or interest from bank accounts.
Gains: These include one-time events, like selling off property or equipment, but should also be recorded as part of an organization’s profit.
Expenses: This includes all your operating costs, like the cost of the goods sold (COGS), employee wages, sales commissions, taxes, and administrative overhead, which ranges from paying rent on facilities and equipment to utilities and transportation. Just as interest gained is included in revenue, interest paid should also be included in your expenses.
Losses: Much like gains, these are one-time costs or events that represent a loss for the business, like having to pay a settlement in a lawsuit.
Net income: Also known as the “bottom line,” this is what a profit and loss statement is made to calculate. To get it, add up all your revenue and gains and then subtract your expenses and losses.
First and foremost, a profit and loss statement is a way to examine a business’s profitability. How much money is truly coming in? How much money is going out? A profit and loss statement looks at the bigger picture.
Comparing several profit and loss statements allows businesses to understand how revenue and expenses stack up over time and across locations. Maybe you’re seeing a steady increase in your sales, but your transportation costs are increasing even faster, making your overall performance appear flat. Creating profit and loss statements can help you understand where the costs are coming from, how to cut them, and how to maximize your net income.
Another reason to prepare a profit and loss statement is to plan for the future. New or prospective businesses will include a projected profit and loss statement as part of a business plan. While a new business might not actually have any real profits or losses to report, they will likely need to show potential investors or loan agents how they expect to make a profit over time.
Established businesses who prepare profit and loss statements can also use the information in those reports to fill out their taxes. This is especially true for small businesses, as they have to fill out a Schedule C form, which is titled “Profit or Loss from Business.”