A profit and loss (P&L) statement (also referred to as an Income Statement) is the best tool for calculating your income. You’ll need a P&L to complete your tax return at the end of the year or secure a loan.
But a P&L’s usefulness goes much further than these mundane uses.
When evaluated correctly, a P&L can provide valuable insights into the health of your business and can illustrate areas of potential improvement. We’ll take a look at the seven best ways to use your P&L to manage your business.
Track Revenue and Expenses
At its most basic level, a P&L allows you to track your business’s income and expenses. The information contained in your P&L can be helpful in understanding where your money is going and where you might be able to cut costs. Ensuring that your expenses are properly categorized will give you an accurate picture of your business, and you’ll then use these figures to determine your net income.
If you add in a few adjustments, you can get to your net cash flow, which can provide more valuable insights. By tracking your P&L regularly, you can gain valuable insights into the financial health of your business.
Setting Financial Goals
The P&L statement can be used to set financial goals, track progress, and make informed decisions about where to allocate resources. For example,a company might use its P&L statement to set a goal of increasing revenue by 25% next year. To achieve this goal, the company might need to invest in new marketing initiatives or product development.
Your current P&L will contain the starting point for your goal setting, and your future P&Ls will show your progress. If your P&L isn’t moving closer to your goal, you’ll need to step back and evaluate what’s holding you back.
Here is a list of common financial goals we see from small businesses:
- Expand my team and give raises
- Increase yearly revenue by x%
- Maintain a Net Profit of $x or a Net Profit Margin of x%
- Increase my owner pay
Manage Financial Plans
A financial plan for the year is a valuable tool for any business, large or small. Setting goals is only the first step. The next step is to track your progress against those goals. A plan will allow you to compare your actual results from your P&L to your expectations and to reign in your spending throughout the year.
It can help you identify areas where you are overspending or underperforming and then make adjustments to improve your financial performance. Having a financial plan in place can simplify the numerous decisions that a business owner needs to make each day.
The plan also allows you to make proactive decisions about your spending instead of reactive decisions.
Though there are always unexpected expenses in businesses, a financial plan minimizes the chance that you’ll spend unwisely.
Sticking to Your Financial Plan?
A financial plan is essential for anyone who wants to get a handle on their finances. For example, if your P&L shows that you are spending more than you planned for travel expenses, you can adjust your plan accordingly, which will show you how that affects the rest of your year. Similarly, if you see that you are spending more on office supplies than planned, you can cut back on other areas to make up the difference.
By tracking your spending from your P&L and making adjustments to your plan as needed, you can ensure that you stay on track and avoid overspending in specific areas of your business.
Monitor Pricing & Margins
The P&L is often used to monitor whether the company’s pricing is appropriate and whether it is generating sufficient profits. Monitoring pricing and margins is an ongoing process that needs to be regularly evaluated. While finding your ideal price point may take time, continually getting pricing wrong can hurt a business and quickly diminish its profit margins.
When determining pricing, you’ll want to evaluate how much it cost you to build each unit or the time it takes you to provide a service. It is also wise to consider what a customer is willing to pay. Setting the right pricing strategy will give you true value and customer satisfaction with the product. Leaving more than enough profit margin to cover the overhead expenses and run the business smoothly.
Reviewing your margins by product or service is helpful in identifying your most profitable goods and services. This allows you to focus more attention on the profitable items and remove or adjust the products that are not making as much margin.
Track Changes Over Time
A P&L is one of the most important tools in business analysis. It is used to track revenue and expenses over a period of time and to compare those figures against each other to determine growth trends. This can help to identify increasing costs or declining sales and pinpoint where those trends are originating from.
By understanding these trends, businesses can make adjustments to their plan and operations accordingly to better hit their growth targets.
Assess Credit Terms
Your credit terms don’t directly affect the P&L, but understanding that you can have sales on your books before you receive the cash can be helpful when evaluating the terms you use when billing your clients.
A retail store collects its revenue when the sale occurs. Other businesses collect deposits for services or goods that will be delivered at some point in the future. But if you allow your customers to pay you after the work is done, you need to monitor how long it takes your customers to pay their invoices. If your customers are taking too long to pay you, then you should evaluate whether it’s hurting your cash flow.
Running a successful business means understanding your company’s financial health, and a P&L is one of the tools in your arsenal. But if you find the numbers intimidating or just need a second set of eyes, you should consider working with a financial professional who can walk you through the evaluation process.
Pinto has been working with businesses for years to simplify the financial evaluation and monitoring of business activities. It provides the financial reports that give you a clear picture of your budget and actual amounts spent, so you can monitor your goals throughout the year. Our reports include visualizations that provide key insights to small business owners into the financial health of their operations.