What is a Profit and Loss (P&L) Statement?
The Profit and Loss Statement (P&L) is a financial statement that starts with revenue and deducts costs and expenses to arrive at net income, the profitability of a company, in a specified period.
- What is the definition of the profit and loss (P&L) statement?
- Is the term profit and loss (P&L) the same financial statement as the income statement?
- Which sorts of insights can be obtained from P&L statements?
- What is the difference between the two P&L accounting approaches: cash-basis and accrual accounting?
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Profit and Loss (P&L) Statement Definition
The term profit and loss (P&L) statement is interchangeable with the income statement, one of the three core financial statements that all publicly traded companies are obligated to file with the SEC.
Together, alongside the cash flow statement and balance sheet, the P&L statement provides a detailed depiction of the financial state of a company.
In particular, the P&L statement shows the operating performance of the company as well as the costs and expenses that impact its profit margins.
Upon assessing a company’s P&L statement, one can gauge the company’s ability to:
- Generate Revenue
- Manage Costs and Expenses
- Create Profits – e.g. Gross Margin, Operating Margin, EBITDA Margin, Net Profit Margin
Profit and Loss (P&L) Line Items
The standard profit and loss (P&L) statement consists of the following line items:
- Revenue: Sales Generated from Customers
- Cost of Goods Sold (COGS): Costs Directly Associated with Core Revenue Production
- Operating Expenses / SG&A: Indirect Costs NOT Directly Related to Revenue Creation
- Interest Expense: Periodic Payments on Debt Obligation (i.e. Cost of Debt Financing)
- Taxes: Required Payments to City, State, and Federal Government
- Net Income: “Bottom Line” Profitability Post-Deduction of All Costs/Expenses
P&L Accrual Accounting vs Cash Basis Accounting
The P&L statements can be prepared by an accountant under two methods:
- Under the revenue recognition principle, revenue is recognized when “earned” under GAAP standards (i.e. product or service delivered to the customer regardless of whether cash payment was received)
- Expenses are matched in the same period as the corresponding revenue it helped create, which is called the matching principle.
- Under cash accounting, revenue is not recognized until the customer pays in cash to the company for the products/services received
- Expenses under cash accounting, similar to revenue, are not recognized until the cash outflow occurs – meaning that the company has actually paid the third party in cash.
P&L statements filed under accrual accounting are required under U.S. GAAP standards.
P&Ls prepared under cash-basis accounting are more common for private companies.
P&L Statements for Private Companies
Note that for many private companies, revenue is recorded as “income” and the expenses are often combined together in a single section, rather than distinguishing between:
- COGS vs OpEx
- Direct Costs vs Indirect Costs
- Core Costs vs Non-Core Costs
The lack of standardization for private companies makes adjusting the financials often a necessary step to properly evaluate the actual financial performance of the company.
For instance, in the context of an acquisition where the acquirer follows accrual accounting, adjustments to a target company’s financial statements would be necessary if it follows cash accounting.