Accounting For Dummies: Part 2
In my previous blog post I introduced the two key accounting documents that you use to manage you business. This post concentrates on the first one of these:
The Profit and Loss Account or P&L. The Bottom Line
As its name suggests this document tells you how your business performed (profit or loss) throughout a specified time period e.g. month, quarter, year. It is most useful when compared with other figures e.g. budget or last month or last year or a competitor’s numbers.
With my clients I like to look at the actuals for current month and year-to-date with comparative figures for your budget and last year. This allows you to see how you’re doing against what you initially thought (budget) and against previous reality (last year).
There are at least 3 key areas that you should analyse on your P&L depending on your business:
(click on the image to enlarge)
( or Turnover, Revenue, Income, Top-line) – This is the key measure that defines your business in financial terms. It is also used to define the size of a given market e.g. the global cleantech market will grow to €3trn by 2020. Sales is all-important and having a strong pipeline managed by competent people is paramount for business survival.
(or Gross Margin, GP) – This is the difference between Sales and Cost of Sales e.g. price of a pint vs. cost of the keg. It is usually more important if you sell products rather than services. It is usually expressed as a percentage of Sales and is a very useful measure for comparing against your previous performance or a competitor.
(or Net margin, Bottom line) – This is what you are left with after you take all the other expenses involved in running a business e.g. pay costs, overheads, marketing, interest, depreciation and tax. Ultimately the only way to long term survival is through being profitable. Depending on your industry you could be making over 50% or happy with 1%. During these times breakeven is a luxury.
Other P&L items – The importance of these will depend on your type of business but major expense items to be tracked will usually include pay, marketing spend or overheads. Expressing these as a percentage of sales lends itself to comparing your performance over time and against your competition.
Taxation is usually payable on profits after some adjustments but rates will vary widely depending on your legal status.
On the next update on these series we will examine the other key document, the Balance Sheet.