Reading the Profit & Loss

How the statement is built, what gross margin tells you, why cash and profit differ, and the checks worth running before believing a month.

ConceptFor Business owners, Bookkeepers, Portal clients, Firm staff

How it is built

The Profit & Loss covers a period. It starts with revenue, subtracts cost of sales to give gross profit, subtracts operating expenses to give operating income, then applies anything below the operating line — other income and expense, interest, tax — to reach net income.

Which accounts land where is decided entirely by account type and numbering. If your gross margin looks wrong, the usual cause is a cost of sales account numbered into the operating expense range, or vice versa.

Reading it usefully

In rough order of what most owners should look at:

Gross margin percentage, and whether it moved. A shift of a few points is usually pricing or input costs, and it compounds.
Revenue against the same month last year, not against last month — most businesses have seasonality that month-over-month comparison misreads.
Operating expenses as a share of revenue, which should be roughly stable unless you are deliberately investing.
Any single line that moved sharply. One-off items are fine; unexplained ones are not.
Net income against your budget, if you set one.

Checks before you believe a month

Bank accounts reconciled through month end — otherwise expenses may simply be missing.
No uncategorized transactions left in the feed for the period.
Accruals posted for known costs whose bills have not arrived.
Prepaid amortization and depreciation posted.
Nothing sitting in suspense or unapplied cash.
A quick scan for anything coded to a generic "miscellaneous" account, which is where coding decisions go to be avoided.

Common questions

I made a profit but my bank balance fell. How?

Profit and cash are different measures. Cash can fall on a profitable month because customers have not paid yet, because you paid down debt or bought equipment — neither of which is an expense — or because you took distributions.

The Cash Flow statement exists precisely to explain this gap.

Why is an equipment purchase not on my P&L?

Because it bought an asset rather than consuming a resource. It appears on the Balance Sheet, and reaches the P&L gradually as depreciation over its useful life.