No matter the size of a business, monitoring profits, expenses and cash flow is vital. Business owners need to know exactly how their business is doing financially, and the best way to do this is to dig into the numbers and create reports.
What is a profit and loss report?
Looking at high sales figures alone can give the illusion that a business is performing well. The profit and loss (P&L) report can tell a very different story.
A profit and loss report summarises the sales that a business makes, minus its expenses. It gives a more realistic overview of how well a business is doing over a period of time.
They can be generated on a weekly, monthly, quarterly or annual basis depending on your needs. Comparing reports against previous periods is also useful as a way to:
- highlight areas with patterns which need attention, such as regular unnecessary expenses.
- track the effectiveness of any changes.
Do I have to create a profit and loss statement?
Limited companies must include a profit and loss statement as part of their annual accounts, although they’re not a requirement for sole traders and partnerships.
That said, they’re a valuable financial tool for any business, and not just for financial reporting and monitoring, either. The income and expenses figures found in a profit and loss report can also be used as the foundation of your tax return, too.
What else can I use profit and loss reports for?
As well as getting a better understanding of how the business is really performing, regularly reviewing P&L reports helps a business to:
- see trends and patterns in revenue, so they can be prepared for seasonal demands and dips.
- make better, more informed decisions for the business moving forward.
A profit and loss statement isn’t just for your benefit or HMRC’s, though. You might be asked to produce one if you want to apply for a business loan, or even a mortgage.
Lenders like to see how well a business is performing before approving any finance, as a way of assessing how likely they are to get their money back.
Rather than simply looking at a ‘snapshot’, such as the balance sheet, the profit and loss statement shows financial health over a time period.
What does a profit and loss report look like?
Profit and loss reports usually follow the same basic template so that they’re easy to read and understand, broken down into sections.
We’ll explain what each term means in more detail, but typically this includes:
- the total amount of sales
- the total amount of direct costs
- the gross profit
- the total amount of expenses
- the net profit
This means the total sales that are made over a specific period of time.
Total direct costs
Direct costs are also known as the ‘cost of sales’. These are the costs which directly relate to a sale. For instance, the cost of goods and materials used to make a product, and the labour costs for building it.
Your gross profit is the total amount of sales, minus the direct cost of sales.
Gross profit = Total sales – Direct costs
Expenses are the operational costs of a business, such as stationery or rent. They’re also known as overheads, or indirect costs.
The net profit is what’s left over once all of the expenses have been paid.
Net profit = Gross profit – Total expenses
Looking at gross and net profits separately is a good habit to get into it. It will help you identify where the business could be more efficient.
For example, if your raw material costs are very low then gross profits might look healthy. But, if you’re renting more office space than the business will need, this affects net profits.
What is the difference between profit and loss reports, balance sheets, and cash flow statements?
They are all important financial reports, but slightly different.
- A profit and loss statement shows your income, costs, expenses, and ultimately how much the business is really making – or really losing.
- A balance sheet summarises all of a business’s long-term assets, liabilities and shareholders’ equity.
Cash flow statements are slightly different. Like a P&L report, they show you where and when cash is coming into the business and where it’s going out. But, this type of statement also shows revenue from other sources, such as investments or bank loans.
Creating finance reports easily
Creating comprehensive financial reports only takes a few clicks in Pandle. And even better – because it’s cloud-based, you can do it from wherever you need to! Learn more about Pandle’s reports features.
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