What is a Profit and Loss Statement?
For any business entity, its main purpose is to have a positive bottom line or to earn profit from its business operations. Any business, no matter its industry or principal operating activity, needs to earn profit in order to survive in the short and long term. Earning profit is the best indication that the business is performing well and that its owner is getting a good return for the investments he or she placed in the business. Showing a positive bottom line is also crucial for a business entity that wants to obtain fresh capital or loan or for one that is increasing its operations.
A business’ profit (or loss) is the end result of its operations over a certain period of time. To determine if the business has earned any profit or if it actually operated at a loss during a certain period of time, it needs to report the results of its operations in a well-structured statement. The report or statement that contains information about such profit or loss and what brought about this figure is called the Profit and Loss Statement, more commonly referred to as the Income Statement.
The Profit and Loss Statement (or the P&L Statement) is one of the most important reports a business needs to issue to its various stakeholders (i.e., the owner, employees, lenders, suppliers, customers, government). This one to two-page report shows how well the business performed financially over a certain period of time. It may cover a certain month, a certain quarter, a certain six-month period or a certain year.
A lot of financial information can be found in the P&L Statement. For one, it shows the total revenues of the business from the sale of its goods or services (or even both), net of any discounts given by the entity or any returns for defective goods or goods that did not meet the specifications of the customer. If the entity is a seller of goods, the P&L Statement also shows its costs when it purchased the goods it subsequently sold (referred to as cost of goods sold) and the amount of goods left in its warehouse or storeroom at the end of the period (referred to as the ending inventory) covered by the P&L Statement. The P&L Statement also indicates how much the entity spent to market, to advertise and to sell its products or services (normally called selling expenses) and how much it spent for its administrative activities (referred to as the general and administrative expenses). The Statement discloses the interest expense incurred by the entity for any loans it obtained to finance its operations, any interest income it received from its investments or bank deposits and the taxes it needs to pay to the government during the same period. Finally, the P&L Statement shows the bottom line; the profit or loss of the entity, which is the net effect of the revenues plus the interest income less the cost of goods sold, expenses, interest paid and taxes.