The income statement or profit and loss account is one of the most important financial reports in the organization. It shows the company’s net profit or net loss. Unlike the balance sheet which is prepared on a particular day, the income statement is about a given period of time usually a fiscal quarter or year. The preparation of P&L financial report is based on the following equation:
Revenue – Expenses = profit or loss
The Profit and Loss account answers a very important question: is the company profitable or not? If the business brings more revenue than it pays expenses, it’s profitable. Otherwise, it’s not.
. P&L account is one of the final accounts (the accounts which are prepared at the final stage of the accounting cycle). Profit and loss account provides a statement of the company’s profit, losses, revenues and expenses over a particular period of time.
Although, the P&L report shows the enterprise’s profitability, it can’t show a company’s financial position without the preparation of other financial statements, specially the balance sheet.
Profit and Loss account ”the Income Statement” main components:
it’s what the company earns from sales or completing a service, referred as the top line, some companies have more than one revenue stream that add to a total revenue line. Most of the companies’ credit is due customers, therefore when revenues are recorded, the accounts receivable total on the balance sheet is increased and cash exchanges increases only when the customer pays the bill
Cost of goods sold: –
The cost of goods sold is the direct cost associated with manufacturing a product, when selling this product to generate revenue, the cost
of goods sold represents the cost of purchasing it from the manufacturer such as the raw materials, labor, and manufacturing costs.
Gross profit is calculated by subtracting the cost of goods sold from revenues. It’s an indicator of efficiency, the higher the better.
Operating expenses is the cost associated with running or operating a business. They’re necessary in order to keep the company running. Operating expenses include: selling, research and development, payroll or staff, insurance, and general and administrative expenses.
Research and development expenses:-
Research and development expenses involve spending money on
upgrading a new or improved technology that can provide a competitive advantage to the business or investing in new products. The amount of research and
development expense varies based on the type of business. The amount of research and development expense can give companies competitive advantages. For example, because Microsoft is a huge and successful company, it can spend billions of dollars on this activity without a problem.
Depreciation is the gradual expenditure of fixed assets from the balance sheet into the income statement. It’s the actual decrease of fair value of an asset. Because fixed assets last for more than one year, only a portion of the cost is expensed yearly through depreciation. At first, when a fixed asset is acquired, it is recorded on the balance sheet under the property plant and equipment account.
Other income and expenses:-
Other income and expenses result from sources not related to operating activities such as interest income on cash balances at the bank, gains and losses from asset sales, and other nonrecurring items.
Net Income or Net Loss:
The net income or loss equals total revenues minus total expenses in the accounting period. While preparing P&L account, keep in mind to close and transfer the indirect expense and revenues from general journal to profit and loss account.
The following is a simple income statement:
Cost of goods sold – $ xxx
Gross profit $ xxx
Selling, general and administrative $xxx
Research and development $ xxx
Depreciation $ xxx
Operating income $xxx
Interest expense $ xxx
Other income expense – $xxx
Income before income taxes $xxx
Provision for income taxes $xxx
Net income $xxx
Profit and Loss Statement
P&L Statement also known as the Profit and Loss Report or as more common the income statement consists of revenue and expenses along with the resulting net income or loss over a period of time. Profit and Loss account reflects a company’s financial performance over a certain period to determine whether it’s making a profit or not.
Profit and Loss account Format
Profit and loss account
For the year ended _/_/_
|Gross Loss ”transferred from trading account”||$||Gross Profit ”transferred from Trading account”||$|
|Sales salaries and commissions|
Telephone chargesInsurancePostage and Telegram
Financial expenses:Bank chargesRepairs and maintenanceInterestAudit feesSelling expensesSales salariesAdvertisementBad debts
Miscellaneous and sundry expenses
|Net Profit transferred to Capital||$||Net Loss transferred to Capital||$|
Preparing P&L account is a necessary tool for providing a complete picture of expenses, costs and revenues generated by a company’s activity. It presents the financial results of a business for a set period of time. The other parts of the financial statements are the statement of cash flows and the balance sheet.
If the income statement is combined with other comprehensive income information, the report format is called a statement of comprehensive income.
It’s important to compare the profit and loss account from different accounting periods, as the changes in operating costs, revenues, research and administrative spending, and previous net earnings or loss are much more meaningful than the numbers themselves.
Profits and Loss account in the chart of accounts
Account tree or chart of accounts whole structure is based on a system of double entry accounting that is now the standard all over the world. Account tree is a complete list that includes all the organization’s accounts and balances and is used to classify and distinguish financial assets, liabilities and transactions. By looking at it you will know all the debts and credits, as well as the various cash flows incoming and outgoing to and from the company. Companies use a chart of accounts to organize their finances and give investors and shareholders, a better insight into their finances separating assets, revenue, and liabilities and to ensure that the financial statements such as profit and loss account are in compliance with reporting standards.