Published Tuesday 7 July 2026

Table of contents

Key takeaways

What is a profit and loss statement?

A profit and loss statement, also called an income statement or P&L, shows your business's revenue, expenses, and net income over a specific time period. It's one of the 3 core financial statements every business needs, alongside the balance sheet and cash flow statement.

You might also hear it referred to as a statement of earnings. These names all describe 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.

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 margin 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:

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.

Here's how the full P&L formula fits together: Revenue - COGS = Gross Profit - Operating Expenses = Operating Income +/- Other Items - Taxes = Net Income.

Profit and loss statement example

Seeing a profit and loss statement with real numbers makes the structure easier to understand. Here's a simplified P&L for a small retail business covering one quarter.

In this example, the business earned $150,000 in sales and spent $60,000 on the products it sold, leaving $90,000 in gross profit. After covering $55,000 in operating expenses like rent, payroll, and marketing, the operating income was $35,000. Once loan interest and taxes were subtracted, the business kept $24,000 in net income for the quarter.

For a more detailed layout, see this profit and loss statement example from Xero.

Cash vs. accrual accounting for profit and loss statements

The accounting method you use affects how transactions appear on your profit and loss statement. There are 2 main approaches: cash basis and accrual basis.

With cash basis accounting, you record revenue when you receive payment and expenses when you pay them. This method is simpler and works well for sole proprietors and very small businesses with straightforward transactions. If you're just getting started with small business accounting, cash basis is often a practical first choice.

With accrual accounting, you record revenue when it's earned and expenses when they're incurred, regardless of when cash actually changes hands. For example, if you send an invoice in March but don't get paid until April, accrual accounting records the revenue in March.

Most growing businesses use accrual accounting because it gives a more accurate picture of financial performance for any given period. If your business carries inventory or extends credit to customers, accrual accounting is typically the better choice.

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

There are 2 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:

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 8 steps. For a visual starting point, download a free income statement template from Xero.

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.

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) x 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 x 100). This tells you how many cents of every dollar you actually keep.

How to compare profit and loss statements

Comparing profit and loss statements across different periods is one of the most practical ways to track your business's performance over time. There are 2 main approaches.

Period-over-period trend analysis

Place your P&L statements side by side (for example, this quarter vs. last quarter, or this year vs. last year) and look for patterns. Are your revenue and gross profit growing? Are certain expense categories climbing faster than sales? Spotting these trends early lets you adjust pricing, cut costs, or double down on what's working before small shifts become big problems.

Benchmarking against industry averages

Comparing your numbers to industry benchmarks helps you understand how your business stacks up. According to Xero Small Business Insights, US small business sales grew just 2.4% on average in 2025, roughly half the long-term average of 5.5%. If your revenue growth is outpacing that benchmark, you're gaining ground. If it's falling behind, your P&L can help you identify which areas need attention.

Profit and loss statement vs. other financial statements

Your profit and loss statement is one of 3 core financial statements. Each one serves a different purpose, and together they give you a complete picture of your business's financial health.

P&L vs. balance sheet

A profit and loss statement covers a specific period (such as a month or a quarter) 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. Your P&L tells you whether you made money; your balance sheet tells you what you're worth.

P&L vs. cash flow statement

A profit and loss statement shows whether your business was profitable during a period, but it doesn't tell you how much cash you actually have on hand. A cash flow statement tracks the movement of cash in and out of your business, including operating activities, investing, and financing. You can be profitable on paper but still run short on cash if customers are slow to pay.

Reviewing all 3 statements together gives you the clearest view of your financial position, profitability, and liquidity.

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:

Common profit and loss statement mistakes to avoid

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

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 Accounting Software, Xero makes it easy to generate P&L reports from your real-time transaction data, with customizable layouts and date ranges.

You can also use Xero to run financial reports and share them directly with your accountant or bookkeeper, so everyone stays aligned. Xero can help you spend less time on spreadsheets and more time acting on the insights that matter. Get one month free.

FAQs on profit and loss statements

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

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

Yes. "Profit and loss statement" and "income statement" are 2 names for the same financial report. You might also see it called a P&L or a statement of earnings.

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.

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 P&L yourself. Accounting software simplifies the process by automatically categorizing transactions and generating reports.

What does a negative net income mean?

A negative net income means your total expenses exceeded your total revenue during the reporting period, resulting in a net loss. Seasonal dips, large one-time investments, or startup costs can all cause temporary losses.

What is the difference between a profit and loss statement and a cash flow statement?

A P&L shows whether your business was profitable over a period, while a cash flow statement tracks the actual movement of cash in and out of your business. You can show a profit on your P&L but still face cash shortages if customers are slow to pay.

How do you use a profit and loss statement to track business performance over time?

Compare your P&L statements side by side across months, quarters, or years. Look for trends in revenue growth, margin changes, and expense patterns to identify what's working and where to adjust.