How to Prepare a Profit and Loss Statement

Your goal as a business owner is to keep your business financially solvent, and to do that, you absolutely must know how much you're making and how much you're losing. A profit and loss (P&L) statement, otherwise called an income statement, breaks down your profit and loss line by line so you can determine your net income and make wise decisions about business opportunities. 

Since an income statement gives you a close look at your total profits, liabilities, and expenses, it's one of the most important financial documents in your roster. Because P&L statements are so important, even the most basic accounting software programs generate them for you at the click of a button. 

But if you want to draw up your own P&L statements (or if you want to understand exactly what goes into generating income statements), Here are a few pointers on the subject...

What is an income statement?

 Let's talk a bit more about why understanding profit and loss is essential to running a successful business.

Profit obviously refers to the amount of money your business is making—and yes, it's critical to know what your income is at any given moment. But revenue alone doesn't accurately represent your business's profits. After all, expenses like rent, employee paychecks, damaged inventory, bank fees, and a host of other expenses and liabilities come out of your bottom line.

To accurately understand your business's fiscal position, then, you need to calculate both profit and loss to find your total net income. And that's exactly what the profit and loss sheet does for you: lists your total revenue, total expenses, and total equity line by line to show how much cash your business is really bringing in.

P&L statements are also important for banks, lenders, and other investors. Lenders will almost always look at your income statement before deciding if your business is profitable enough to invest in. P&L sheets also demonstrate your own financial know-how—if you as a business owner don't have a good understanding of how to effectively manage profit and loss, lenders will be less likely to trust that your business can give them a good return on investment.

Again, you don’t have to prepare a P&L statement on your own. Plenty of accounting software will do it for you. And if you want more information on how to create an income statement specific to your business, we always recommend talking to your financial advisor. Virtual accountants and bookkeepers can help, as can business bankers, CPAs, or other trusted financial professionals.

1. Choose an income statement format

If you're creating an income statement by hand, using a spreadsheet program like Excel or Google Sheets will help you keep the process simple. Depending on the product you use, you can find an easy template instead of building a document from the ground up. For instance, Microsoft Office offers a series of Excel templates for P&L statements.

The U.S. Small Business Association also offers a simple income statement template you can easily download, print, and fill out. Your accountant can also show you how they draw up a profit and loss statement. And, again, most accounting or bookkeeping software can automatically create a P&L statement for you or provide you with a template for you to fill in.

2. Decide on a time period to calculate net income

Most businesses calculate their profits and losses on a monthly, quarterly, or annual basis. If a lender or investor asks you for a P&L statement, they should specify the time period they need to see. Otherwise, just make sure to choose a time frame that shows you a general trend without overwhelming you with too much data; less than a month is probably too little time to reveal trends, while more than a year is probably too much.

3. List your revenue

For most product-based small businesses, revenue equals sales, or the amount goods sold—such as the amount of hair products sold by your salon, the number of baked goods sold by your cafe, or the number of printouts sold by your copy shop. But depending on the business, revenue could also include things like rent money, tax returns, or licensing agreements.

List each revenue source as its own line on your profit and loss statement. Then, once you’ve listed each source, total the amount to find your gross revenue.

4. Calculate your direct costs

After adding up your revenue, it's time to add up your direct costs, or costs related directly to producing the products or services you sell. If you sell a physical product, direct costs can also be called COGS, or cost of goods sold. Not sure what expenses count as COGS? Let’s say you sell holiday-themed oven mitts on Etsy. To make your goods, you have to buy fabric, thread, a sewing machine, scissors, pins, patterns, and a host of other materials. The money you spend purchasing those items is your direct cost.

What if your business provides a service instead of goods? Since you don’t sell a physical product, you don’t have COGS, but you do still have direct costs. For instance, if you’re a psychologist, your office space is essential to the service you provide: without an office, you can’t offer services. So in this case, the money you pay for the office would be one of your primary direct costs.

Direct costs can also include the costs of the labor that goes directly into your product or service. Let’s imagine you’re the owner of a small lawn mowing company. Purchasing a lawn mower isn’t your only direct cost—the amount of money you pay an employee to push the lawn mower is also a direct cost.

5. Calculate your gross profit

So now you know what your direct costs are. But do they outweigh what you charge customers for your products or services? Let’s find out: subtract your direct costs from your total revenue to get your gross profit. Hopefully, you’re left with a positive number that shows how much your business is making.

Once you've calculated your gross profit, you can also calculate your gross margin, which represents your gross profit as a percentage. Just subtract your direct costs from your gross revenue, and then divide that number by the gross revenue. Then simply multiply that number by 100.

6. Calculate your operating and non-operating expenses

Operating expenses (OPEX) are any expenses necessary to your business that aren’t direct costs. In other words, these expenses refer to any money that doesn’t go directly into creating goods or supplying services, which is why you'll also see operating expenses referred to as indirect expenses.

Depending on the type of business you run, these could include monthly utilities, business internet and phone plans, hardware and equipment, marketing costs, office supplies, building maintenance, and equipment repairs and maintenance. Basically, anything that impacts your day-to-day business operations should be listed as an operating expense on your income statement.

Since there are so many types of operating expenses, most income statements break down your OPEX by category. Here are a few of the most common.

• Administrative expenses

Administrative expenses, also called general expenses, are any expenses you incur in the general administration of your business. You can also think of administrative expenses as costs you'd pay even if you weren't producing goods or selling services—for instance, even on a day you don't sell a single product, you're still paying for inventory storage space.

• Overhead expenses

Overheads can refer to the fixed costs of running a business that don’t vary from month to month (in contrast with operating costs, which can fluctuate). If you pay the same monthly fee for your accounting software, that would count as a fixed cost, or overhead.

Depending on your business and type of income statement, overhead costs can also encompass all indirect labor and production costs. This contrasts with operating costs, which can mean the costs of actually running a business. Your accountant can help you understand more about what overheads look like at your unique business.

• Additional operating costs

A few other main OPEX categories include payroll expenses, marketing costs, and sales costs. Once again, we recommend asking an accountant for personalized recommendations about how to break down your operating expenses on an income statement.

• SG&A

SG&A stands for selling, general, and administrative expense, and it's yet another term you might see used as a synonym for OPEX.  Basically, the term encompasses everything except for COGS, direct costs, research and development expenses, and interest on business loans.

• Non-operating expenses

Non-operating expenses are (hopefully) one-time expenses like legal fees, tax penalties, or interest on a business loan. Once you've calculated your operating expenses, make sure to include your non-operating expenses on your P&L statement as well. 

7. Determine your net income

It’s time for the moment of truth: is your business profitable or not? Steel yourself, take a deep breath, and subtract your total expenses from your gross profit to get your net profit.

Is your net profit positive? Nice! You’re on track for financial health. Is it low, zero, or in the negatives? It’s time to reevaluate some business practices. That could mean cutting down your OPEX (operating expenses), downsizing departments, or switching raw materials manufacturers to reduce your COGS (cost of goods sold). Source

What Is a Balance Sheet?

A balance sheet is a straightforward (but crucial!) financial document that balances your assets against your liabilities and equity. Luckily for the busy business owner, they’re pretty easy to create and read: one half of the sheet lists what your business owns while the other half lists how much you owe, along with how much of the company you or your shareholders own. The information on a balance sheet gives you, your lenders, and your investors a quick overview of your business’s current financial health. In other words, when you need to take your business’s temperature, a balance sheet is your thermometer.

And along with a profit and loss statement (also called an income statement) and a cash flow statement, a balance sheet is one of your business’s most essential financial documents. You’ll be drawing up a lot of balance sheets, and if you want your business to stay in the black, you need to know how balance sheets work, how you read them, and how you can create your own.

What information is on a balance sheet?

Balance sheets draw on a simple equation, which is also one of the most basic accounting principles: assets = liabilities + equity. Of course, when we say “simple,” what we really mean is “less complicated than taxes,” but then again, what isn’t? So let’s look closer at what each term means:

• Assets refer to your current cash balance plus the dollar amount of anything your company owns, which includes property, equipment, inventory, accounts receivable, and anything else you could liquidate for cash.
• Liabilities refer to any money owed by your company. Typically, this category includes income tax, rent on office buildings, utility payments, wages paid to employees, and loans from banks and investors.
• Equity is also called “net worth” or “net assets,” and it’s the amount you or other shareholders would walk away with after debts to non-shareholders get paid off. If you’re the sole owner of your business, you call this owner’s equity. If external stakeholders own parts of your business, you call this shareholders’ equity.

Wondering why your assets need to equal both your liabilities and your equity, especially since “net assets” is another term for equity? Honestly, it’s kind of confusing, but try thinking of it like this: the only reason you have assets is because you took out a loan from a bank, accepted money from shareholders, or invested your own money in your business. Since your assets stem from a combination of liabilities and equity, the two halves of the equation need to balance.

So once you have all this information, it’s time to make sure the numbers all balance—or rather, the balance sheet makes sure they balance. Basically, the assets on one half of the sheet should equal the liabilities and equity on the other side of the sheet. Say you take out a $10,000 loan. That means you have a $10,000 liability—but it also means you have $10,000 in assets. See? Balanced.

That’s obviously the easiest, most simplistic example; alas, creating your first balance sheet won’t be that easy. But that example gets at the basic principle of the thing, which is to make sure your assets, liabilities, and equity are all balanced.

How can you draw up a balance sheet by hand?

If you’re set on doing your first balance sheet with pen and paper, open up your spreadsheet program or pick up your graphing paper and calculator and let’s get started;

1. List your assets

On the left half of your sheet, list your assets, starting with the most liquid assets and moving to least. Liquid assets are assets you can easily convert to cash, so you’ll want to start with your cash balance, then list the easiest items to cash out on, then the hardest items to cash out.

Another way to think about liquidity is in terms of time. Current assets include everything you can turn into cash within a year or less—such as inventory, like unsold bags from your boutique, or equipment, like your industrial bread maker. Long-term assets are things you couldn’t easily liquidate within a year, including long-term investments and intangible assets like copyrighted logos.

To keep things organized, you’ll want to split up your list of assets by category, or current vs. long term. At the end of each category, list the total; then at the very bottom of the assets column, list the sum total of all the assets.

2. List your liabilities

On the right half of your sheet, list your liabilities, starting with the most current debt owed (i.e., accounts payable, biweekly wages, or utility payments) to the longest-term debt (i.e., a five-year bank loan). Follow the same organization as the assets column, totaling each type of liability and then the sum total liability.

3. List your owner’s equity or shareholders’ equity

On the right half of your sheet—beneath the liabilities section and with its own heading—list your equity. Depending on your small business’s ownership structure, equity could include:

• Stock options, including common stock, treasury stock, and preferred stock
• Retained earnings, or money earned by the owners that they then reinvest in the business
• Paid-in capital, or additional money invested in the company that is not common stock
• As with the other categories, total each type of equity, then list the sum total equity.

4. Check the balance

Does your assets section equal your liabilities and equity section? If so, great news: you’re in the clear! But if your liability and equity outweigh your assets, you’ll need to put in a few extra hours as you figure out how to restore the balance. Source

Outsourcing vs Insourcing: Which is Right for You?

For business owners, one of the most critical decisions that can shape the trajectory of a company is choosing between insourcing and outsourcing. According to recent industry reports, a staggering 70% of businesses have embraced outsourcing as a strategic tool to optimize their operations and stay ahead of the competition. But is outsourcing always the answer? That's where understanding the nuances and benefits of insourcing and outsourcing becomes paramount. As the renowned management guru Peter Drucker once said, "Efficiency is doing things right, but effectiveness is doing the right things."

What is Insourcing?

Insourcing can be defined as the practice of keeping specific tasks or operations within a company's internal resources, utilizing its own personnel and infrastructure to fulfill those functions. Instead of seeking external assistance, insourcing involves relying on in-house capabilities to handle various aspects of business operations.

Examples of Insourcing in Business:

• IT Services: Many companies maintain an in-house IT department to handle network maintenance, software development, and technical support tasks. However, even IT is outsourced these days. It is predicted that by 2025, the IT outsourcing market will be worth $397.6 billion.
• Customer Service: Businesses may establish their own customer service department and implement IT help desk software to handle customer inquiries, feedback, and support directly.
• Manufacturing: Some organizations opt to have their own manufacturing facilities, employing their own workforce and equipment to produce goods, often utilizing MRP software to streamline and optimize their production processes.

What is Outsourcing?

Outsourcing refers to delegating specific tasks, processes, or operations to external third-party providers. Instead of relying solely on internal resources, businesses choose to leverage external expertise and resources to handle certain functions.

Examples of Outsourcing in Business:

• Accounting and Bookkeeping: Many businesses outsource their accounting and bookkeeping tasks to professional firms.
• Human Resources: Outsourcing HR functions, such as payroll processing, recruitment, and employee benefits administration, is a common practice for businesses.
• Call Center Services: Companies often outsource their customer support and call center operations to specialized service providers.
• Administrative Services: From solopreneurs to executives, people outsource their administrative tasks to virtual assistants.

Outsourcing vs Insourcing: Pros and Cons

Pros of Insourcing

Let’s delve into the pros and cons of insourcing first. There are several advantages of insourcing for businesses that choose to keep operations in-house:

• Control and Oversight: With insourcing, you have direct control and oversight over the tasks and processes. This enables you to maintain quality standards, ensure alignment with your company's vision, and have immediate access to information and resources.
• Confidentiality and Security: By keeping sensitive operations within your organization, you can maintain greater confidentiality and control over proprietary information, trade secrets, and customer data.
• Enhanced Collaboration: Insourcing promotes stronger collaboration among internal teams, fostering knowledge sharing, innovation, and a sense of unity within the organization.

Cons of Insourcing

Despite its benefits, there are also some disadvantages of insourcing:

• Increased Costs: Insourcing often requires significant investments in infrastructure, equipment, training, and hiring specialized personnel. These costs can be substantial and may impact your bottom line.
• Limited Expertise: Depending solely on internal resources may limit access to specialized skills or knowledge that external experts or service providers can offer.
• Lack of Scalability: Insourcing may pose challenges in scaling operations quickly during periods of growth or in response to fluctuating demands.

Pros of Outsourcing

Outsourcing presents its own set of advantages:

• Cost Savings: Outsourcing allows businesses to access specialized expertise without significant upfront investments. Service providers often operate cost-effectively, helping you reduce expenses and improve profitability. According to SiaPartners, in 2018, a majority of companies, 62%, saved between 10% to 25% by outsourcing, while the remaining 38% achieved savings of up to 40%.

• Focus on Core Competencies: Outsourcing non-core functions can redirect your resources and energy towards core business activities, increasing efficiency and productivity.

• Access to Global Talent: Outsourcing opens doors to a global talent pool, enabling you to tap into specialized skills and experience that may not be readily available internally.

Cons of Outsourcing

Outsourcing also comes with potential downsides:

• Communication and Control: Distance and time zone differences can sometimes pose challenges in effective communication and maintaining direct control over outsourced tasks or projects.
• Dependency on Third-Party Providers: Relying on external service providers means placing the success of certain operations in their hands. This can introduce risks if the provider fails to deliver as expected.

• Potential Quality Concerns: Outsourcing may lead to concerns regarding quality control, especially if the service provider's standards do not align with yours. Source

11 Strategies to Help Generate Positive Cash Flow

To help you generate a positive cash flow, we asked business professionals and leaders for their best insights. From bootstrapping the business to raising your rates, there are several strategies to generate a positive cash flow.

Here are eleven strategies to help generate a positive cash flow:

• Bootstrap the Business

The easiest way to be cash flow positive is to bootstrap the business. That way, if you don't have enough cash, you'll go out of business. The fear of going out of business is a good motivator to focus on what will get a business to be cash flow positive, such as increasing revenue or reducing expenses. Cut the safety net of raising more funds or taking out loans, and a small business will have no other choice than to make money.

• Talk With Vendors to Negotiate Terms

Talk with your vendors and see if you can negotiate more advantageous terms with them. For instance, you can ink a longer-term contract with them in exchange for you paying lower prices. Reducing your costs in this area can help generate a positive cash flow. Stabilizing and increasing the longevity of your business arrangements can also help you stay focused and increase positive cash flow over time.

• Save on Production Cost with Technology

Using technology is one very effective way to generate a positive cash flow. Depending on your industry, technology can help you save on production costs or even automate certain aspects of your customer service. Embrace the latest technology, use it to reduce costs and you’ll see a more positive cash flow.

• Delay Expenses

One thing you can depend on is that not all customers are dependable. Some clients make promises to pay on time, and then simply can’t. When you face such situations, it’s tempting to conduct business as usual. However, if your income is delayed, it only makes sense to also delay any expenses you can. By doing so, you can keep tabs on your cash flow and ensure that everything balances out.

• Start a Partner Referral Program

Consider starting a partner referral program to drive traffic and increase conversions. If you leverage your relationships with other businesses, you can mutually recommend your services or products to each other’s customers, growing both your customer base and sales. With a referral program in place, your cash flow will surely grow.

• Have Operating Assets

One strategy to help generate a positive cash flow in a business would be to have operating assets. Operating assets are used in the course of producing goods or services. If a business has enough operating assets, it may be able to wait on the payment for its invoices until it gets paid, which can help produce a more stable cash flow. You can also periodically and systematically look for ways in which the company can save money. Examples of such money-saving measures might be switching cell phone carriers, negotiating with suppliers for better prices, and renegotiating long-term leases.

• Send Invoices Early

If you’re providing products or services to others, and get paid by the invoice, don’t wait to send those invoices out. It’s understandable to want to stick to a predetermined schedule, perhaps sending out invoices all at once each month. This can lead to money crunches, though, and can get in the way of goals or budgets. Keep it all organized, but don’t delay when it comes to sending out invoices to have a more steady, positive cash flow.

• Check Your Inventory

Check your inventory for items that are not selling well. These products tie up your cash flow. Sell those at a discount or bundle them up with another product. You may also decide against manufacturing or buying the same item/s, moving forward. The same goes for unused equipment. You can either sell it for cash or lease it to another company. The proceeds from the sale can help add funds to your business.

• Leverage Relationships

We create long-term relationships based on trust and mutual benefits during our business dealings. One way to generate positive cash flows is to leverage those relationships to negotiate deals based on the needs of your business. Over 80% of businesses that fail state cash flow as the main reason for their decline. Purchasing goods from vendors and suppliers often accounts for over 60% of daily business costs, which means the timing of receiving and pricing goods is critical.

It is important to remember that vendors have a vested interest in your success as it impacts their bottom line. Working with them to renegotiate credit lines, prices, and quantities can dramatically impact generating a positive cash flow. By utilizing the trust you have built to keep your business running at its most efficient level, you can maintain positive cash flows and increase profits.

• Improve Productivity

Improving productivity can be a somewhat overlooked method of generating positive cash flow. By eliminating redundant tasks and automating processes, you open up opportunities for your employees to do more productive work. You can also discover which of your current methods are cash drains by conducting an audit of them. You can then eliminate these processes to ensure maximum cost-effectiveness and savings. The more redundant processes and outdated procedures you eliminate, the more time and resources your staff will have to devote to productive work, ensuring that goals and targets are met.

• Raise Your Rates

Many entrepreneurs launch their businesses with rates that are too low. Lack of experience is no reason to charge less than what it costs to produce your products.  The simplest, and most overlooked strategy to produce positive cash flow is to simply raise your rates. Don’t sell yourself short. If you’re good at what you do, and you’ve gotten great feedback on your work, don’t be afraid to charge your worth. One of the most common reasons why entrepreneurs find themselves getting sales but not producing positive cash flow is because they’re not charging enough. Source

Schedule Bookkeeping Activities Into Your Regular Day

Bookkeeping isn’t a once-a-month or once-a-week activity. Schedule your bookkeeping tasks and activities into smaller tasks and complete them over the course of the week.

Decide how much work you can do yourself and how much you should outsource. Here are a few examples of essential bookkeeping tasks and how often you should handle them:

• Issuing invoices to customers – once a week
• Recording customer payments – once a week
• Depositing customer payments in the bank – once a week
• Recording vendor invoices you received – once a week
• Recording changes in credit cards – once a week
• Issuing checks to pay vendors – once a week
• Reconciling credit card and bank account transactions into statements – once a month
• Producing financial statements – once a month
• Closing books to keep further entries – once a month

The weekly tasks you can assign to employees or complete yourself. Paying bills and invoicing happen daily, so they can be complicated to outsource. But complex projects like reconciling your accounts and closing the books should be done by a professional. Source

5 Ways a Bookkeeper Can Save You Money

As a small business owner, you’re likely a fan of the do-it-yourself lifestyle and used to juggling an ever-increasing number of tasks. While managing finances may not be your favorite, putting it off has real repercussions.

You may feel confident with payroll and bookkeeping software, or think that can’t afford to hire a bookkeeper, but they can be incredibly helpful in ensuring things are done well and alleviate some of your stress. Here are five ways a bookkeeper can save you money and help you run your business more efficiently:

1. Makes Managing Your Profit Margin Possible

As a small business owner, you’re probably used to working with razor-thin profit margins. A professional bookkeeper can help you keep track of these margins and offer insight on how to leverage them for greater returns on operating expenses.

A bookkeeper can also manage your monthly transactions, handle payroll, take care of government remittances, and ensure that bills are paid on time, freeing you up to concentrate on growing your business.

2. Lets You Take a Load Off

Running a small business is no easy task. The first few years are often the most difficult, as many small business owners struggle to make ends meet. Being forced to juggle multiple roles at once can translate into neglecting aspects of your business, like administration. Fortunately, this is a task that bookkeepers can help with.

3. Alleviates the Stress of Taxes

The collective panic business owners face during tax season is no laughing matter. While it’s something we all like to avoid, taxes are an essential part of business. 

Employing a bookkeeper, even temporarily, means the accurate and timely reporting of your expenses, write-offs, salaries, and budgets. This makes tax season less stressful for you and ensures things are done properly.

4. It’s Only Temporary

Unless your business employs over 30 employees or your revenue exceeds one million dollars annually, it’s unlikely you’ll have enough work to employ a bookkeeper full-time. 

Most small business owners can get away with outsourcing their bookkeeping, allowing them to save money. Calling in the help of a bookkeeper for tax season can be a beneficial and temporary solution, while your business grows.

5. Peace of Mind

Beyond the tangible benefits to your business, bookkeepers can also provide you with peace of mind. 

Jacquie Johnston, VP of the Canadian Bookkeepers Association, recalls receiving countless end-of-fiscal-year phone calls from frantic small business owners. On the benefits of hiring an external bookkeeper, she says, “Flexible scheduling and hourly rates allow you to pay for only what you need—nothing more, nothing less.”

While employing a bookkeeper may be a difficult decision for your small business, the benefits often outweigh the costs, as you’ll save time, money, and reduce some of the stress associated with running your business. Source

The Importance of Business Owners Understanding Contracts

Contracts are legally binding and critical to business operations, but many business owners overlook their complexity, leading to potential legal and financial risks. 

Here are key reasons why understanding contracts is essential:

1.) Legal Binding: Once signed, contracts obligate both parties to fulfill the terms. Non-compliance can lead to lawsuits or financial penalties.

2.) Hidden Clauses: Legal language can obscure unfavorable terms like automatic renewals or harsh penalties. Careful review is necessary to avoid surprises.

3.) Clear Obligations: Misunderstanding responsibilities such as delivery timelines or payment schedules can result in breaches of contract.

4.) Negotiation: Reviewing contracts enables business owners to negotiate better terms, such as payment conditions or less restrictive clauses.

5.) Legal Counsel: Hiring an attorney can ensure you understand the full implications of complex agreements and avoid costly mistakes.

6.) Dispute Resolution: It's important to clarify how disputes will be handled and understand exit strategies before signing.

7.) Intellectual Property: Contracts involving IP must be reviewed to avoid inadvertently losing ownership or control over valuable assets.

8.) Flexibility: Consider how contracts might limit your future business decisions, including long-term commitments or exclusivity agreements.

In short, contracts can greatly impact a business’s success, and it’s vital for business owners to review them thoroughly, negotiate wisely, and consult legal professionals when needed to protect their interests.

Contact us today with any questions; 

Susan Powers- 916-302-9153 or visit our website here