What is a profit and loss sheet? What to know and how to build one

One of the most important ways business owners can keep track of their finances is with a profit and loss sheet – which will be beneficial when it comes to doing your accounts.

This often overlooked document is a legal requirement for limited companies and helps you to understand your revenue, expenses and overall profit, allowing you to make accurate budgets, projections and plans.

Good financial management skills are essential for anyone starting a business and in today’s unpredictable economy, small business owners need to keep their fingers on the pulse.

So what is a profit and loss sheet and how can you build one for your business?

What is a Profit & Loss statement/sheet?

A profit and loss statement is a financial document that details the difference between how much your business has earned and how much it has spent.

The document includes an itemized list of every source of revenue and every expense along with the resulting net profit or loss.

Companies will usually create profit and loss statements quarterly and annually, allowing them to keep track of their finances and conduct accurate financial reporting.

A profit and loss sheet is usually created alongside two other financial documents, a cash flow forecast and a balance sheet.

While a profit and loss sheet focuses on the profits made, a cash flow forecast predicts future income and outgoings and a balance sheet provides an insight into a company’s assets, liabilities and equity.

Combined, these documents provide an in-depth look at the overall financial performance of your business.

Seven components to include in a Profit & Loss Sheet

A profit and loss sheet should include the following:

1. Revenue

Revenue is everything that comes into your company over a set period of time. This includes money from things such as sales, interest, subscriptions and royalties.

2. COGS

COGS refers to the Cost of Goods Sold and covers all of the costs associated with producing and/or purchasing the goods that your business sells, for example raw materials.

3. Gross Profit

Gross profit is the income that is left over after you have deducted the cost of goods sold (COGS) from the revenue.

4. Operating expenses

Operating expenses are costs that your business incurs during regular operations such as for office supplies or staff salaries.

5. Operating income

Operating income is the profit (or loss) that is left over once you have deducted all of your operating expenses.

6. Non-operating items

Non-operating expenses are costs that are not directly related to your regular operations such as legal fees or restructuring costs.

7. Net profit

Net profit, also known as net income or the bottom line, is what’s left over once you have deducted all costs from your revenue. This figure will indicate whether you are operating at  a profit or a loss and this money can be saved, spent or reinvested.

How to build a P&L statement in 9 steps

Creating a profit and loss statement is simple, you just need to follow the steps laid out below.

Step 1: Decide on your reporting period

First things first you need to decide what reporting period you are going to use for your profit and loss statements. The most common option is quarterly and one annual report too, however some businesses opt to create them weekly and monthly.

It’s important to stick to your reporting schedule so that you can make accurate comparisons.

Step 2: Keep track of your revenue

Every time your business makes money, keep track of it! You can do this on a spreadsheet or with accounting software.

However you choose to do it, add a note that details the source of each revenue and add categories so that you can easily see which areas bring in the most money.

Step 3: Calculate your COGS

The Cost Of Goods Sold (COGS) refers to all of the costs that are directly associated with creating or sourcing the products or services that you sell. This could include material costs or labour fees but excludes things such as office rent.

Remember, COGS is tax deductible as a business expense too!

Step 4: Determine gross profit

To calculate your gross profit you need to subtract the cost of goods sold from your revenue.

Step 5: Calculate operating expenses

Your operating expenses are the costs you incur to run your business, such as office space rent, marketing fees, legal fees, insurance, accounting software etc.

Operating costs are also tax deductible as a business expense!

Step 6: Calculate depreciation and amortization

Depreciation is the wear and tear of your physical assets, such as machinery, and should be included in your profit and loss sheet.

It’s usually calculated by estimating how long you expect the asset to continue making you revenue and how much you could earn if you sold the asset (salvage value).

Depreciation = asset’s original cost –  salvage value / estimated useful life

Amortization is the wear and tear of digital assets and can be calculated in the same way.

Both of these can be listed on your profit and loss statement as an expense.

Step 7: Calculate your operating profit

Your operating profit is the amount you earn from your core business functions after you have deducted your operating expenses, depreciation and amortization.

If your operating profit turns out to be less than your operating expenses, this means you are operating at a loss.

Step 8: Calculate any interest or taxes

If you have any business loans or credit cards, you’ll need to calculate all of the interest you’ve paid on those during the reporting period too.

You can also use your profit and loss sheet to calculate your effective tax rate.

Effective tax rate = income tax expenses / net income

Step 9: Calculate your net profit

The final step is to calculate your net profit in order to determine if you are in a profit or a loss.

Net profit = gross profit – all expenses and taxes

Other ways to calculate profit and loss

There are various other ways you can calculate your profit and loss too, including:

1. Single-step method

A single-step profit and loss statement uses just one equation to calculate net income:

Net income = all revenue – all expenses

2. Multi-step method

A multi-step profit and loss statement calculates gross profits, operating income and net income:

Gross profit = revenue – cost of goods sold

Operating income = gross profit – operating expenses

Net income = operating income + non-operating items

3. Cash method

With a cash method profit and loss statement, you simply document when cash goes in or out of the business. Incoming cash is recorded as revenue and outgoing cash is recorded as a liability.

Analysing your profit and loss statements

It’s all very well to build your profit and loss sheet but as a small business owner you need to be able to analyse and understand it too.

Here are our top tips for analysing your profit and loss statements to ensure you get the most value:

• Compare your revenue over different periods in order to spot seasonal trends and common periods of growth.
• Take a look at your gross profit in order to determine if your current pricing model is sustainable.
• Monitor your expenses and look for unnecessary costs that can be cut.
• Measure your performance against your competitors and industry benchmarks to stay competitive.
• Combine your profit and loss sheet insights with the data from your cash flow forecast and balance sheet to plan your financial future.

Conclusion

A profit and loss sheet is more than just a piece of compulsory reporting for your business, it’s a vital tool to keep track of your finances and support future growth.

By regularly analysing revenue trends, expenses and profit margins, you can identify areas of success and budgets that need improvement.

In 2025 the economy can feel uncertain for small business owners which is why equipping yourself with as much knowledge and insight into the financial health of your business as possible is important.

Whether you’re a new business owner or a seasoned pro, up to date profit and loss sheets will help you navigate financial challenges and build a profitable future for your business.

Lucy Nixon - content writer

With 10 years experience in the digital marketing industry, Lucy is a content writer specialising in ecommerce, website building and all things small business. Her passion is breaking down tricky topics into digestible and engaging content for readers. She's also committed to uncovering the best platforms, tools, and strategies, researching meticulously to providing hand-on tips and advice.