Wednesday, 1 April 2015

How to Read and Analyze a Profit and Loss Statement?

The Profit and Loss Statement provides you with important means of tracking your business progress. Therefore, it’s one of the most important documents associated with your funds. When you run a business in the competitive environment of Singapore, you need to understand how the Profit & Loss Statement works. In this guide, we have explained the structure of the P & L Statement, and how you can use this statement to manage your business in a better way. The Balance Sheet and the Profile & Loss Statement are two major financial documents. They are most familiar to business owners and executives. Out of these two, the Profit & Loss Statement is simpler to understand. It has a simpler and straightforward format. It’s worth mentioning that once you have understood the Profit & Loss Statement, you should also understand how the Balance Sheet works.

Purpose of the P & L statement
The Profit & Loss Statement is known by many different names. Sometimes, it’s also referred to as a Statement of Financial Performance or an Income & Expenditure Account. As the names suggest, the primary purpose of the P & L Statement is to list all the income and expenses. The difference between your income and expenses determines either the loss or profit you have made for a specific period. This allows you to analyze your performance.

Here’s how you read the Profit and Loss Statement:
Check the Math -
It’s worth mentioning that there may be some printing errors in the P & L Statement, even in the ones produced by some of the largest Singapore companies. In case you find an error, you may uncover something to change the entire result. In addition to this, when you run through the subtracting and adding, you may improve your understanding of how all the numbers fit together.

Focus on the Bottom Line -
The bottom line is whether your business has made any profits or incurred losses. Needless to say, it’s better when the bottom line of the P & L Statement shows a positive number. This means, your business can keep the lights on and pay the employees without borrowing any money. However, if the bottom line of the statement is preceded by a negative sign, enclosed in parentheses or printed in red, it means your expenses exceed the revenue. You need to find out the reasons for the losses, and make necessary changes to your business strategy.

It’s important to understand that net loss once in a while does not lead to disaster. Many new companies in Singapore don’t expect to turn any profits in the first couple of years. It’s also possible that your business is cyclical, such as agriculture. In case your business grows corn, and there was not any rain this year, you’re likely to incur losses. 
On the other hand, you need to make sure net losses don’t become a trend. The company needs to generate profits, and possess sufficient funds to manage business during the down times. A Profit and Loss Statement can give you a good idea about where your business is heading. 

Consider the Sources of Income -
All the sources of income should make sense for the business. For instance, if you run a cotton candy business, sales income from the local county fair seems right. However, if one income line is just a Gifts from Friends, it’s definitely not sustainable. You need to have some options for the next year when your friends don’t come through. It’s possible you’re reviewing the statements for a big museum. In this case, 10% of your income may come from admission fees, while 90% income was generated from ticket sales of a special exhibit. If you plan to organize a special blockbuster every year, it’s fine to generate such income. However, if it was an isolated incident, you need other sources of income. In simple terms, your revenue model should be sustainable. 

Notice the Expense Categories -
You need to make sure that the expense categories seem logical. For most business organizations in Singapore, you can see wages, salaries, rent, insurance, interest, supplies and some other things. You need to make sure nothing is missing from the expense categories. For instance, if your business has more than hundred employees and you don’t see any mortgage interest or rent, you need to know why. If there’s an office, you need to know how it’s being paid for. 

Look at the Biggest Expenses -
If you run a service business, you should expect to see a good number for salaries. In case it’s a manufacturing business, supplies and materials may be a significant total. On the other hand, you need to check the ratio between salaries and number of employees. If your employees are being overpaid, you may notice a big number in the salary category. In the Profit and Loss Statement, you need to check why you have been borrowing money, and from which parties. 

Compare Numbers for Different Years -
In most cases, the P & L Statement has a separate column with figures for the prior financial year. If your Profit & Loss Statement does not show the percentage change in each category, you should calculate the numbers yourself. You should also question significant changes in the statement. For instance, you need to check why the sales are 50% percent lower than last year. Similarly, you need to know why insurance has gone 20% lower. This information in the Income Statement can help you learn where you have been going wrong, and what you have been doing right. This is one of the most important functions of reading your Profit & Loss Statement. 

Think About the Relationships Between Numbers -
In most Singapore companies, employee benefits account for a significant cost. This may include health insurance, parking passes and retirement plan contributions. If your salary line doubles, but benefits go up by just 10%, you should consider this an anomaly. You need to know the reason your new employees don’t qualify for benefits. While going through your Profit and Loss Statement, these were the most basic things you should read. A better understanding of your P & L Statement allows you to take the right steps to boost your business. If you still experience any problems, you should consult a reputed and experienced professional. 

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