As a business owner, your financial statements are more than just numbers on a page—they’re a roadmap to your company’s success. In our latest YouTube video, we break down the Profit & Loss statement to help you transform financial data into strategic business decisions. Watch the full video explanation here.
What is a Profit & Loss Statement?
A profit and loss statement, often called a P&L, is a financial report that shows how much money a business made and how much it spent over a certain period of time, like a month, quarter, or year. Think of it as a big summary of what came in and what went out, so business owners can see if they made a profit or had a loss (more money went out than came in).
The P&L statement includes three main sections:
- Income (or Sales): The total money earned from selling products or services.
- Expenses: The costs of running the business, such as paying employees, buying supplies, renting office space, or advertising.
- Net Profit or Loss: The final number at the bottom of the report. If there’s more revenue than expenses, it’s called a net profit. If expenses are higher than revenue, it’s a net loss.
A profit and loss statement is useful because it helps business owners understand where their money is going, if their business is making or losing money, and if they need to make changes to improve their financial health. It’s like a report card for the business’s money!
Breaking Down the P&L: A Section-by-Section Strategy Guide
1. Income
This is the starting point of your P&L statement. Your income or revenue section isn’t just about totals—it’s about understanding your revenue streams. This includes product sales, service income, and other revenue such as partnerships, or ad revenue. Strategic businesses break down income by categories:
- Course revenue
- One-on-one services
- Digital products
Why does this matter? Because it allows you to identify your most profitable services, understand which revenue streams are growing, and make informed decisions about where to focus your efforts.
2. Cost of Goods Sold (COGS): Understanding Your Direct Costs
Expenses are all the costs needed to run the business. Expenses are divided into Cost of Goods Sold (COGS) and Operating Expenses. This section of the P&L helps business owners see where their money is going and identify areas where they might save. COGS varies dramatically between businesses. For service providers, this might include:
- Subcontractor labor
- Specific client-related subscriptions
- Direct project expenses
Tracking COGS precisely helps you price services more accurately, identify areas of inefficiency, and maximize your profit margins.
3. Operating Expenses: The Cost of Doing Business
These are the ongoing costs that keep the business running but aren’t tied to producing specific products. They can include things like rent, utilities, advertising, and salaries. Here are some other common operating expenses:
- Software subscriptions
- Insurance
- Employee wages
- Business travel
- Marketing costs
Not all expenses are created equal. Regularly reviewing these can help you cut unnecessary spending, reinvest in high-impact areas, and maintain financial flexibility.
4. Net Income: Your Business’s Report Card
The net profit or loss is what’s left after subtracting all expenses from revenue. This number shows whether the business made money or lost money in a specific period. It’s the “bottom line” of the business and the number investors and business owners focus on to measure profitability.
Net income is simple: Total Income – (COGS + Expenses) = Profit
- Net Profit: If revenue is higher than expenses, the business has a net profit (a positive result).
- Net Loss: If expenses are higher than revenue, the business has a net loss (a negative result).
- Example: Suppose a bakery has $10,000 in revenue from sales of cakes and pastries, $4,000 in COGS (for ingredients like flour and sugar), and $3,000 in operating expenses (like rent, advertising, and salaries). The bakery’s net profit would be $10,000 – $4,000 – $3,000 = $3,000.
Turning Your P&L into a Strategic Tool
Using your Profit & Loss statement as a strategic tool can help you make data-driven decisions and strengthen your business in the long term. Here are some tips on how to use it effectively:
1. Track Trends Over Time
Reviewing your P&L regularly (monthly, quarterly, and yearly) allows you to track trends and see how your business is growing. By comparing the same time periods, you can identify patterns and understand the impact of any changes you’ve made, like launching new products or adjusting prices.
- Tip: Set up a monthly routine to review your P&L. Look for patterns in revenue growth, cost increases, or seasonal variations.
2. Focus on Profit Margins
Profit margin is a key indicator of financial health. To calculate it, divide your net profit by total revenue. Higher margins mean you’re keeping more of each dollar you earn. By monitoring your margins, you can identify areas where expenses may be too high or where you could increase prices to improve profitability.
3. Separate Fixed and Variable Expenses
By categorizing your expenses into fixed (like rent and salaries) and variable (like materials and shipping), you can better understand how costs change with revenue. This will help you see where you can cut back if revenue dips or where to invest more if revenue grows.
4. Identify Areas for Cost Control
A regular P&L review can highlight areas where expenses may be creeping up unnecessarily. For example, subscription costs or marketing expenses can sometimes become bloated. Use this review to find and manage these expenses effectively.
- Tip: Review your operating expenses line-by-line each quarter. Look for subscriptions, services, or overhead that you might be able to reduce or eliminate without impacting business performance.
5. Plan for Taxes and Set Aside Funds
A P&L statement can help you estimate tax liability. By knowing your profit, you can set aside funds monthly to cover taxes and avoid year-end surprises. This also helps you plan ahead and be financially prepared.
6. Inform Future Budgeting and Forecasting
A P&L statement helps guide your financial decisions for future months. By knowing where revenue and expenses stand, you can set realistic budgets and adjust as needed. If you know what months are slower, you can plan to boost marketing or introduce seasonal offerings to help smooth out cash flow.
7. Guide Product or Service Decisions
Looking at which products or services drive the most revenue (and cost the most to produce) can help you optimize your offerings. For instance, if one service is in high demand but brings a lower profit margin, you might adjust pricing or reduce expenses associated with it.
8. Make Data-Driven Investment Choices
Before committing to new investments, such as hiring or purchasing equipment, check your P&L to see if your profit can comfortably cover it. A strategic P&L review can help you understand if now is the right time to grow or if adjustments should be made first.
- Tip: Use your net profit as a benchmark. If your profit is consistently strong, it may be a good time to invest. If it’s low or fluctuating, focus on stabilizing before taking on new expenses.
By integrating regular P&L reviews into your decision-making process, you’ll gain valuable insights and keep your business financially strong and prepared for growth.
The Power of Professional Insight
While you can review a P&L yourself, working with a bookkeeper who understands your industry can provide:
- Accurate income categorization
- Industry-specific expense benchmarking
- Deeper financial insights
Your Profit & Loss statement is more than just a financial requirement—it’s a powerful tool for strategic business planning. By understanding and regularly reviewing your P&L, you’re not just tracking money; you’re mapping your path to business success.
Want to dive deeper? Let’s chat. Because your numbers aren’t just numbers – they’re the roadmap to your most profitable year yet.
Can’t get enough financial insights? Check out our full video walkthrough of the Profit & Loss statement on YouTube.
The content in this blog post is provided for general informational purposes only and should not be considered professional tax or legal advice. The author is not a Certified Public Accountant, and no assurances can be made regarding the outcomes or consequences of tax returns, IRS actions, or any financial decisions based on this information. Readers are strongly advised to consult with a qualified tax professional or legal advisor for personalized guidance specific to their individual circumstances. The author expressly disclaims any liability for decisions made based on the information presented in this blog post.
