Profit and loss statement

Published Wednesday 20 May 2026

Table of contents

• What is a profit and loss statement?
• Why a profit and loss statement matters for your business
• What's included in a profit and loss statement
• How to read a profit and loss statement
• Single-step vs. multi-step profit and loss statements
• How to create a profit and loss statement
• Common profit and loss statement mistakes to avoid
• Track your profit and loss with Xero
• FAQs on profit and loss statements

Key takeaways

• A profit and loss statement (also called an income statement) summarizes your revenue, costs, and expenses over a specific period to show whether your business is profitable.
• Reviewing your P&L regularly helps you spot trends, control spending, and make informed decisions about pricing, hiring, and growth.
• Every P&L follows a basic structure: revenue at the top, then cost of goods sold, gross profit, operating expenses, and net income at the bottom.
• You can create a profit and loss statement manually or use accounting software to generate one automatically from your transaction data.

What is a profit and loss statement?

A profit and loss statement is a financial report that shows your business's revenue, expenses, and net income over a specific time period. It's one of the three core financial statements every business needs, alongside the balance sheet and cash flow statement.

You might hear it called an income statement, a P&L, or a statement of earnings. These names all refer to the same document. Regardless of what you call it, the purpose is the same: to tell you whether your business made money or lost money during a given period.

Most small businesses prepare a profit and loss statement monthly, quarterly, or annually. Monthly reports give you a frequent pulse check, while annual statements provide the big picture for tax filing and long-term planning.

Why a profit and loss statement matters for your business

Your profit and loss statement is one of the most useful tools for understanding your business's financial health. Here's why it matters.

• Measure profitability. See exactly how much money your business keeps after covering all expenses.
• Spot trends early. Compare P&L statements across periods to identify rising costs, declining revenue, or seasonal patterns before they become problems.
• Make informed decisions. Use real numbers to guide choices about pricing, hiring, cutting expenses, or investing in growth.
• Prepare for tax season. An accurate income statement makes it easier to file your taxes and claim deductions you're entitled to.
• Communicate with stakeholders. Share your P&L with lenders, investors, or your accountant to demonstrate financial performance and build trust.

What's included in a profit and loss statement

A profit and loss statement follows a standard structure from top to bottom. Each line item builds on the one above it to arrive at your final net income.

Revenue (or sales)

Revenue is the total amount your business earns from selling products or services before any expenses are subtracted. This is the "top line" of your income statement.

If your business has multiple revenue streams, list each one separately. For example, a bakery might break out retail sales, wholesale orders, and catering income as individual line items.

Cost of goods sold (COGS)

Cost of goods sold represents the direct costs of producing or delivering your products and services. For a product-based business, this includes raw materials, manufacturing labor, and shipping. For a service business, it might include contractor fees or direct labor costs.

Gross profit

Gross profit shows how much you earn after covering the direct costs of your goods or services. The formula is straightforward.

Gross profit = Revenue – Cost of goods sold

A healthy gross profit means you're charging enough to cover production costs and still have money left over for operating expenses.

Operating expenses

Operating expenses are the ongoing costs of running your business that aren't directly tied to producing goods or services. Common examples include:

• Rent and utilities
• Salaries and wages (non-production staff)
• Marketing and advertising
• Office supplies and equipment
• Insurance premiums
• Software subscriptions
• Professional fees (legal, accounting)

Operating income

Operating income tells you how much profit your business generates from its core operations, before accounting for interest, taxes, or one-time gains and losses.

Operating income = Gross profit – Operating expenses

Net income (or net loss)

Net income is the "bottom line" of your profit and loss statement, also known as your net profit. It's the amount left after subtracting all expenses, including interest, taxes, and any non-operating items, from your total revenue.

Net income = Operating income + Other income – Other expenses – Taxes

If this number is negative, it's called a net loss, which means your expenses exceeded your revenue during that period.

How to read a profit and loss statement

Reading a profit and loss statement doesn't require an accounting degree. Follow these steps to understand what the numbers are telling you.

Start with the top line

Your revenue figure tells you how much money came in during the period. Compare it to previous periods to see whether sales are growing, steady, or declining. If revenue is dropping, dig into the details to find out which products, services, or customer segments are driving the change.

Check your margins

Your gross profit margin reveals how efficiently you're producing or delivering your products and services. Calculate it using this formula.

Gross profit margin = (Gross profit ÷ Revenue) × 100

For example, if your revenue is $100,000 and your gross profit is $60,000, your gross profit margin is 60%. A declining margin may signal that your costs are rising faster than your prices.

Review operating expenses

Look at each expense category as a percentage of revenue. This helps you spot areas where spending might be out of proportion. If marketing costs jump from 10% to 20% of revenue without a corresponding increase in sales, it's worth investigating.

Focus on the bottom line

Net income is the number that matters most. A positive and growing net income means your business is becoming more profitable. Compare your bottom line across multiple periods to understand the trajectory.

Don't just look at the number in isolation. Compare it to your revenue to calculate your net profit margin (net income ÷ revenue × 100). This tells you how many cents of every dollar you actually keep.

Single-step vs. multi-step profit and loss statements

There are two main formats for a profit and loss statement. The right choice depends on your business's complexity.

Single-step profit and loss statement

A single-step income statement groups all revenue together and all expenses together, then calculates net income in one step. The formula is simple.

Net income = Total revenue – Total expenses

This format works well for sole proprietors, freelancers, and small businesses with straightforward finances. It's quick to prepare and easy to read.

Multi-step profit and loss statement

A multi-step income statement separates operating and non-operating activities and calculates intermediate figures like gross profit and operating income along the way. This format gives you a more detailed view of where your money goes.

Choose a multi-step format if your business carries inventory, has multiple revenue streams, or needs to report detailed financials to lenders or investors. It takes more effort to prepare, but the added detail helps you pinpoint exactly where profitability is strong or weak.

How to create a profit and loss statement

You can build a profit and loss statement from your accounting records by following these eight steps. For a visual reference, see this profit and loss statement example.

1. Choose your reporting period. Decide whether you're preparing a monthly, quarterly, or annual statement. Use consistent periods so you can compare results over time.
2. Calculate total revenue. Add up all income from sales, services, and any other revenue sources during the period.
3. Determine your cost of goods sold. Total the direct costs associated with producing or delivering your products and services.
4. Calculate gross profit. Subtract your cost of goods sold from your total revenue.
5. List your operating expenses. Gather every ongoing business expense: rent, payroll, marketing, insurance, utilities, and so on. Categorize them clearly.
6. Calculate operating income. Subtract your total operating expenses from your gross profit.
7. Account for other income and expenses. Add any non-operating income (such as interest earned or asset sales) and subtract non-operating expenses (such as interest paid on loans).
8. Determine net income. Subtract taxes from your adjusted figure to arrive at your bottom line. If expenses exceed revenue, record the result as a net loss.

Accounting software can automate most of these steps by pulling data directly from your general ledger and categorized transactions, saving you hours of manual work.

Common profit and loss statement mistakes to avoid

Even experienced business owners make errors on their income statements. Watch out for these common mistakes.

• Mixing personal and business expenses. Keep separate accounts for personal and business spending. Combining them skews your profit figures and creates headaches at tax time.
• Misclassifying expenses. Putting an expense in the wrong category (for example, recording a capital purchase as an operating expense) distorts your margins and can lead to inaccurate tax filings.
• Ignoring accrual accounting. If you only record income when cash arrives and expenses when you pay them, your P&L won't reflect the true financial picture for the period.
• Not reviewing regularly. A profit and loss statement loses its value if you only look at it once a year. Monthly reviews help you catch problems early and adjust course.
• Forgetting non-cash expenses. Depreciation and amortization are real costs that reduce your taxable income. Leaving them out overstates your profitability.

Track your profit and loss with Xero

A clear, accurate profit and loss statement helps you understand where your money goes and whether your business is on track. With Xero's accounting software, you can generate customizable financial reports in just a few clicks, pulling directly from your real-time transaction data.

You can also share your reports instantly with your accountant or bookkeeper, so everyone stays on the same page. Spend less time building spreadsheets and more time acting on the insights that matter.

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FAQs on profit and loss statements

Here are answers to frequently asked questions about profit and loss statements.

What's the difference between a profit and loss statement and a balance sheet?

A profit and loss statement covers a specific period and shows your revenue, expenses, and net income during that time. A balance sheet is a snapshot of a single moment, showing what your business owns (assets), what it owes (liabilities), and the owner's equity. Together, they give you a complete picture of your financial health.

How often should you review your profit and loss statement?

At a minimum, review your income statement quarterly. Monthly reviews are even better, especially if your business has tight margins or fluctuating revenue. Frequent reviews help you catch cost increases, revenue dips, or cash flow issues before they grow into bigger problems.

Can you create a profit and loss statement without an accountant?

Yes. If you keep accurate records of your income and expenses, you can prepare a basic profit and loss statement yourself. Accounting software simplifies the process by automatically categorizing transactions and generating reports. That said, working with an accountant or bookkeeper is valuable for interpreting the results and making strategic decisions.

What does a negative net income mean?

A negative net income means your total expenses exceeded your total revenue during the reporting period. This is called a net loss. It doesn't necessarily mean your business is failing; seasonal dips, large one-time investments, or startup costs can all cause temporary losses. The key is to understand why and plan accordingly.

Is a profit and loss statement the same as an income statement?

Yes. "Profit and loss statement" and "income statement" are two names for the same financial report. You might also see it referred to as a P&L or a statement of earnings. The format and content are identical regardless of the name.