Written on the 8 February 2014 by National Australia Bank
Part 1 Understanding financials
Taking the time to understand your financial documents will give you more control and a clearer picture of your business and how it’s performing. The profit and loss statement and the balance sheet are the two basic financial documents that give you this information.
As a business owner, learning about dry accounting topics may not be top of your list – unless you’re an accountant! However a basic understanding of financials makes a big difference to managing a business. It will help you make better decisions and improve your ability to communicate productively with your accountant and other advisers, such as your NAB Small Business Banker.
What’s a profit and loss statement?
A profit and loss statement, or statement of financial performance, provides a picture of your business’s trading performance over a defined period, such as a month or a whole financial year. It records sales, expenses, profits or losses, and any tax payments for the period.
The profit and loss statement typically follows this format:
Sales (or turnover)
Less: cost of sales (your ‘direct’ costs, such as raw materials)
Equals gross profit
Less: fixed/business overheads such as rent, rates and salaries
Equals operating profit or profit before tax
Less: tax payable
Equals net profit.
A profit and loss statement is relatively straightforward for non-financial managers to understand, but you might need to ask questions about some elements of the statement to understand all the information in it.
For instance, some items such as any principal repayments you’ve made on a business loan are not included because these don’t count as an expense, just as injecting additional capital into your business doesn’t count as sales. But the interest you pay on a business loan is an expense that should be included.
What does it tell you?
The profit and loss statement allows you to study your gross profit and net profit margins. These can reveal trends that enable you to make timely business changes.