How to produce a Profit and Loss Statement
A Profit and Loss Statement illustrates how much profit you made in any given period, usually it is 1 year.
A Profit and Loss Statement is important because it illustrates whether or not we have made a profit – one of the most important objectives of being in business. This is also important to various other parties – the bank would like to know we made a profit so they can be sure we can continue to repay their loan, and the government would like to know the size of our profit in order to calculate our tax. It also summarises our revenue and expenses for the year, which is important for analysing how money has come in and out of our business.
On our Trial Balance we have 6 sections – Assets, Liabilities, Expenses, Revenue, Drawings and Owner’s Equity. Take another look:
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TRIAL BALANCE FOR (NAME)’S BAKERY AS AT (TODAY’S DATE) |
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DEBIT SIDE |
CREDIT SIDE |
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Assets |
Liabilities |
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Bank $21,650 |
Loan $9,000 |
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Computer $1,500 |
John’s Car Shop $3,000 |
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Car $3,000 |
Accumulated depreciation $400 |
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iPhone $500 |
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Oven $500 |
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Expenses |
Revenue |
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Cake mix $3,000 |
Sales $7,000 |
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Interest expense $1,000 |
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Telephone expense $300 |
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Repairs expense $50 |
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Depreciation $400 |
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Drawings |
Owners’ Equity |
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Drawings $1,000 |
Owner’s Equity $15,000 |
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Balance $34,400 |
Balance $34,400 |
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To check our Profit and Loss we’re going to have the figures from two of these sections – Revenue and Expenses.
Let’s have a look at these numbers:
Revenue:
Sales $7,000
Expenses:
Cake Mix $3,000
Telephone $300
Repairs $50
Interest $1,000
Depreciation $400
This is all the information that we need to produce for our Profit and Loss Statement. Let’s get started.
The basic format of a Profit and Loss Statement is simply:
Revenue– Expenses = Profit
Using the figures from our trial balance, simply fill in the figures in the Profit and Loss Statement below to work out your profit!
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PROFIT AND LOSS STATEMENT FOR (NAME)’S BAKERY FOR THE PERIOD ENDED (TODAYS DATE) |
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Revenue |
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Sales |
$7,000 |
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Total Revenue |
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$7,000 (A) |
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Less: Expenses |
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Cake mix expense |
$3,000 |
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Telephone expense |
$300 |
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Repairs expense |
$50 |
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Interest expense |
$1,000 |
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Depreciation expense |
$400 |
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Total Expenses |
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$4,750 (B) |
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Net Profit |
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$2,250 (C) |
Congratulations. You made a profit! As we can see in our Profit and Loss Statement, your bakery made a profit of $2250
Now, before you get too excited, you need to remember that you don’t get to keep all that profit for yourself! There’s a very important man known as the taxman who takes his cut each year:
Taxation
Now that we’ve worked out our profit, we can work out how much tax we need to pay.
Your profit is $2,250. Assuming 30% tax rate , you need to pay a tax of $675
Remember, this is just an example - every country has its own tax rate!
Let’s go ahead and do one last journal entry to record our tax expense:
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Dr |
Tax Expense |
$675 |
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Cr |
Accounts Payable |
$675 |
Tax Expense is an expense, so this causes our debit side to increase. The other side of the equation is accounts payable, which is a liability.
It’s a liability because it is still owing; it’s a bit like a bill that’s waiting to be paid. This liability will be carried forward on our balance sheet until we pay our tax the following year. At the time we finally pay it, we will credit our bank account by $675 and debit our accounts payable by $675. By now, you should be able to see that this will reduce our accounts payable to zero, and the liability will be eliminated from our accounts.
Tax is interesting because it is a journal entry that we do AFTER our profit and loss has been prepared. This means we have to go ‘backwards’ in the accounting process, so to speak.
After that, we prepare our tax ledgers as per usual, and add the balances to the trial balance.
TAX EXPENSE LEDGER
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Details |
DEBIT |
CREDIT |
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Opening balance |
$0 |
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Tax Payable |
$675 |
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BALANCE |
$675 |
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TAXATION PAYABLE LEDGER
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Details |
DEBIT |
CREDIT |
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Opening balance |
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$0 |
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Tax expense |
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$675 |
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BALANCE |
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$675 |
Here is how our updated P & L statement looks like-
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PROFIT AND LOSS STATEMENT FOR (NAME)’S BAKERY FOR THE PERIOD ENDED (TODAYS DATE) |
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Revenue |
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Sales |
$7,000 |
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Total Revenue |
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$7,000 (A) |
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Less: Expenses |
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Cake mix expense |
$3,000 |
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Telephone expense |
$300 |
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Repairs expense |
$50 |
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Interest expense |
$1,000 |
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Depreciation expense |
$400 |
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Total Expenses |
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$4,750 (B) |
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Net Profit |
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$2,250 (C) |
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Less taxation (30%) |
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$675 |
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Net profit after tax |
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$1,575 |
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Revenue
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Less: Expenses
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Importance of a P&L Statement
The Profit and Loss Statement is a very important report. It’s the report you’ll submit to the bank next time you apply for a loan. They’ll use it to see whether or not your business makes enough money to pay it back.
It’s the report you’ll submit to investors who want to invest in your bakery. They’ll use it to determine whether your business is profitable and will give them a good return on their investment.
It’s the report you’ll submit to the government. They’ll use it to work out how much money you made and how much tax you need to pay.
Anyone who needs information about your business’s profitability will use this report. Good job! Now let’s take care of the Profit and Loss Statement’s big brother – the Balance Sheet.