Understanding your profit and loss statement

Your profit and loss statement (P&L) helps you understand your business performance and profitability over time. It’s sometimes called an Income statement and its main purpose is to list income and expenditure.

Whereas a balance sheet is a snapshot in time, the P&L shows transactions over a specific period of time. This can be a month, quarter, financial year or any other period, and it can be a stand-alone report or a comparative period report.

Together with the balance sheet, these two reports provide a comprehensive understanding of the financial position and performance of a business.

The profit and loss statement has two main sections: income and expenses.

These may be further subdivided depending on the complexity of the business and reporting requirements.

Income or Revenue

Income primarily includes main business activities such as sale of goods or services. Other income such as interest received, capital gains or income from secondary business activities is also reported.

Expenses

Expenses are usually divided into two sections: direct costs, or cost of goods sold, and expenses. Cost of goods are those that are directly linked to the provision of services or sale of goods. For example, if you buy widgets from a wholesaler and sell them at a marked-up value, the cost of the widgets is a direct cost, not an overhead expense.

Other types of direct costs might be importing and freight costs, contractor costs or certain equipment. Some direct costs are fixed, that is, they are the same from month to month, or they could be a fixed percentage of sales; others vary in value but are still related to the income producing activities.

Overhead expenses are all the other expenses required to run the business, regardless of the level of income: for example, rent, utilities, bank fees, bookkeeping fees, professional development costs, vehicle costs and staff costs. Many of these costs form the basis of working out your break-even point, or how much it costs just to open the doors for business.

There are some expenses which may be reported as a direct cost in one business but an indirect cost in another type of business, for example, merchant fees or contractor costs.

The Bottom Line

Total income minus total expenses results in the net profit (or loss), is often called ‘the bottom line’. Often business owners are just interested in looking at the bottom line, but a true financial picture requires an understanding of several reports and an ability to see the big picture that the reports are illustrating.

The P&L is a vital tool to analyse for trends over time

• What does your P&L tell you about relationships and ratios between sales and expenses, seasonal changes and annual trends?
• Have all your direct costs been allocated correctly?
• Have you recouped all billable expenses from customers?

Financial statements help you understand the big picture for your business. With deeper understanding of your business operations and performance you can make informed decisions about your business finances.

We can help you.

Are you confident in reading your profit and loss statement? Would you like to know more about the relationship between costs and revenue to make better business decisions? Contact us today to examine your financial reports with an experienced business advisor.

Contact us here.

Teaching kids about money

Teaching your kids about money is all about finding the right moments to have a conversation. Each time this happens, you’ll be helping to strengthen their financial literacy and build their ability to make good decisions with money.

The money we spend each day tends to be invisible. When was the last time you withdrew your cash for the week and used it to make purchases? Rather than dealing in notes and coins, we tend to reach for our cards or shop seamlessly online. It’s entirely possible to spend money without even reaching for your wallet.

This can give kids some confusing messages about how money is spent. The danger here is that they won’t develop financial literacy and will struggle to manage their own money later on. One way to help them to build their financial management skills is to choose moments to talk to them about money and why you’re making certain decisions.

These moments could include:

Shopping a​​​​t the supermarket

If you’re taking your kids on the weekly shop, get them involved in the process. Involve them in drawing up your shopping list and talk through your budget. Have them help you to find items, and weigh up differently-priced options. As a bonus, helping them to understand how a food budget works might just cut down on all those requests for treats!

Withdrawing money from the ATM 

Getting out money does seem a little magical. So it’s important that kids can make the connection between the money you go to work for, and what they see coming out of the wall. Talk to them about where the money you’re withdrawing will go and help to understand the importance of knowing what’s in your bank account.

Letting them make choices 

When it comes to pocket money or money from a birthday or Christmas, it can be helpful to let your children experience the consequences of their financial decisions. It’s tempting to tell them what to do with their money, but once they discover that they can only spend their precious cash once, take the time to talk with them about what they are feeling and how they might use their money differently in the future.

Choosing activities 

When you choose what to do as a family, don’t forget to talk through the costs of different options. Kids will appreciate balancing an expensive trip to the movies with a free picnic in the park or will be amazed when they compare the cost of an icecream at a parlor versus a whole tub at the supermarket. Encourage them to brainstorm and research low-cost ideas and get creative!