Crushing Financial Jargon: Understand What Profit & Loss Is
Have you ever looked at your financial documents and felt like you came out the other side confused and feeling like you just went to battle with a cloud of financial jargon? And then you furiously tried to search for terms that sound familiar, but nothing happened?
Words like stock, market, bond and currency were thrown out very frequently. It gets even harder when you start to dig deeper into each topic.
It's important to know the financial lingo, but it's also important to break down the complicated-sounding terms into something simple and easy to understand. Here, we will explore the basics and make them more understandable for you.
Profit & Loss (P&L)
The three components that make up the Net Income or Profit in a Profit and Loss Statement are the revenue, cost of sales and expenses. Your revenue is your business’ income, your cost of sales is the expenditure related to generating income and your expenses are your business overhead costs.
The Profit and Loss is based on a simple formula: sales minus the costs equals your profit. Indeed, it’s very simple, and it all comes down to you to break out sales or cost into more detail and add subtotals.
Here is a breakdown of a P&L:
Year: You will see the financials for multiple years on a single report. If your business has been profitable in recent years, but then you take a sudden loss, you will see it in the report. Keep in mind that a single year of data won’t tell the whole story.
Revenue: This is the money you bring in as a result of sales. Therefore, your revenue should exceed your expenses to make your business profitable.
Cost of goods sold: Also referred to as direct costs, this refers to the money necessary to make a sale, such as your materials, direct labour costs and many more.
Gross profit: This is the profit your business makes from sales after you deduct the cost of goods sold. Your gross profit will give you a quick understanding of how much you’re making after each sale.
Operating expenses: These are the costs you incur indirectly from a product’s sale and don’t include your cost of goods sold.
Net income: This is all the money left from your revenue after you deduct your cost of goods sold, interest, taxes, operating expenses and a lot more. If the expenses exceed the revenue, the negative number is referred to as a loss.
Your profit and loss statement will show you your net profit based on your revenues and expenses. This will show you the ability of your business to manage its profits by cutting costs and driving revenue.
Furthermore, you can use the information here to investigate revenue and expense trends, cash flow, net income and your overall profitability. When you know these things, you can allocate your resources and budgets better.
Many people do not understand the financial side of the business very well. The financial jargon can be a little overwhelming and intimidating. To navigate the “financial waters”, getting down to basics is your first step. It would also help to seek guidance from an accountant in understanding these terms.
New Wave Accounting is a reputable small business accountant on the Gold Coast. We can provide you with visual reports for your business through our Cash Flow Forecasting program. Book a consultation today!