What is this?
If you are intending to become self employed, whether as a sole trader or in starting up your own business, the profit and loss statement (P&L) is one of three essential Numbers skills – alongside the statement of cashflows, and key performance indicators.
A P&L is basically a table of your income and costs
There is no single correct way of drawing one up, but most will contain the following five elements (and in this order):
- Revenue (also known as ‘Sales’ or ‘Turnover’)
- Direct costs (also known as ‘Cost of Sales’ or ‘Cost of Goods Sold’ or ‘Cost of Revenue’)
- Gross profit
- Indirect expenses
- Net profit
Revenue minus direct costs = gross profit
Gross profit minus indirect expenses = net profit
Net profit is usually the last row of the table, hence its famous nickname, the ‘bottom line’ e.g.
“Rising fuel costs are really going to hurt my bottom line.”
“We’re going to grow the bottom line through an increased focus on client retention.”
Example P&L (holistic therapist)
In the example below, Paul wants to leave his dayjob and become a holistic therapist, knowing that he will probably have to start part time until his client base is large enough to support living costs.
This P&L confirms that based on current assumptions of the number of clients and his cost base, he will make £575 per month – worth getting into, but not enough to give up the day job just yet…
Other example P&L’s
- Part time holistic therapist (as above, with notes)
- Self employed counsellor
- Self employed personal trainer
- Hair and beauty salon owner
How is this useful to me?
In the UK, if you are trading as an incorporated (limited) company, or you are a sole trader earning over £50,000 a year, you are required by law to produce a profit and loss statement for each financial year.
Even if you are a sole trader earning less than £50,000 a year, the information you must provide to HMRC for your tax return will amount to the same thing anyway.
In the first instance, the P&L tells you if a venture is fundamentally profitable or not
If not, then either the income needs to increase, or the costs need to reduce, until the net profit figure is sufficiently large for your requirements (extra income? so you can leave your present job?)
To guide your decision making
A P&L can also help you ascertain:
- Can you afford to hire any new employees?
- Can you afford to move to a bigger venue?
- Is your current growth strategy effective?
- How will you plan your taxes?
You may also need to provide a P&L for other audiences
- Lenders / investors
- Government / tax authorities
If you’re looking to borrow money for business purposes, the lender will more often than not want to see your P&L (and often also a cashflow statement).
From this, they can ascertain the efficiency of your operations, your competitiveness, and the soundness of your business model. What they are looking for is assurance your business is likely to make a profit in the future big enough to pay back loans and interest.
Suppliers you are hoping to obtain goods from on credit will do the same.
It’s important to note about P&L statements that they do not represent your business’ financial health by themselves. They may reflect it in some cases, but they can be skewed (or misleading) by billing practices or incorrect reporting of transactions (whether intentional/fraudulent or not).
Want to really get into the detail?
Also known as…
P&L, income statement, earnings statement, revenue statement, operating statement, statement of operations, and statement of financial performance.
Whilst the numbers are obviously the crux of a P&L, they often also need to be backed up by text to explain why a certain figure is so high/low. This text is often referred to as the narrative.
If you haven’t started trading yet, then the numbers are guesswork, and will need to be backed up by substantial narrative to justify each of the assumptions, for example:
- I believe I can obtain 3 new clients per week from Facebook advertising because…
Other useful resources
- A guide to expenses for hairdressers
- A guide to expenses for counsellors
- Tax made easy for counsellors
Other useful Minutes
Bite sized guides to concepts that could help you attract clients, reduce costs, or run your wellness practise more efficiently:
- A few minutes to understand… business systems
- … cash flow
- … Key Performance Indicators (KPI’s)
- … the marketing funnel
- … opportunity cost
- … the Planning Principle