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What to look for in a Profit & Loss report

by | May 7, 2022

Accountants and finance people love going on about how important your financial reports are and how much can be learned by regularly reviewing them. And, that’s true. You can learn a lot about your business just by taking a regular look at your numbers. You can learn all about the hidden financial undercurrents and find potential problems (before they become emergencies) that you wouldn’t normally notice during day-to-day operations as you run your business. Checking your bank balance and your gut just doesn’t give you the same holistic understanding, as reviewing your reports.

But, if you don’t know what you’re doing, reviewing a Profit and Loss feels a lot like reading dense poetry. You can physically read it (you’re literate after all), but everyone tells you there’s a seemingly obvious deeper meaning that you just aren’t seeing and no one wants to explain what you’re supposed to be looking for (surprise, I didn’t do well in high school English 🙃). That’s mainly because there is no perfect, all-encompassing ‘Reading a Profit & Loss for Dummies’ method (and, partially because accountants are bad at describing things). Like poetry, you need to get a feel for it. But, there’s certain things and situations you can look out for, to get started. And, they can be broken down into two main categories: 1, general understanding, and 2, business-specific targets.

 

General understanding:

There’s no quiz at the end of a Profit & Loss review. Real-life is nothing like Shark Tank where founders are expected to have an in-depth understanding of their finances and are rapid-fire quizzed on their numbers. You’re not going to be an expert at the end of a review and that’s fineee. Because, the point is just to have a general understanding of what’s going on. Open your P&L and just calmly take it all in. Take in your revenue, employee (and contractor) expenses, software expense, overhead expenses (aka, all those things that aren’t tied directly to operations, but you need to keep the lights on like insurance, or the lights), profit, and all the other little numbers. Then, check in with your gut – given what you know about your business, do those numbers feeeel right? There’s no right or wrong answer to that question.

 

Amounts that don’t seem right :

Inevitably, a few numbers won’t pass the (very scientific) gut check. That isn’t necessarily a bad thing tho. There’s plenty of good reasons for a number to be different than you’d expected. Sometimes, we just guessed wrong. Drill down into those categories and find out why they seem wrong. Start by looking for mistakes (eg, duplicate transactions, transactions in the wrong category, missing transactions that you know occurred, etc). If you can’t find any mistakes, think about why your assumptions may’ve been different from reality. And, really take your time with it. This is one of those learning moments accountants are always talking about. It helps you root out the incorrect assumptions that you’re basing day-to-day decisions on.

 

Unexpected changes:

Other times, one or two numbers will take you by complete surprise. Instead of thinking “well, that doesn’t seem right,” you’ll say “there’s no way that’s right.” These are the numbers that you’re sureee are wrong and require a deeper dive. Just like before, you want to look for mistakes, but you want to go deeper. Look outside your accounting software for answers. For example, if you’re surprised by your revenue, check your invoices and project management software for an invoice that slipped thru the cracks or a payment that bounced. And, if there are no mistakes, think about whyyy that number caught you by surprise and figure out what about your business you’re misunderstanding.

 

Target categories and accounts:

After you’ve done a simple review, specifically revisit any categories related to a current goal or recent project. Take a look at the financial impacts and make sure things are going to plan (but, remember, ‘going to plan’ doesn’t necessarily mean ‘a resounding success’). For example, if you’ve spent the last quarter cutting SaaS subscriptions and shopping benefits prices, take a look at a month-over-month Profit & Loss. Review how much progress you’ve made. Or, if you’re growing, keep an eye on wages expenses, payroll tax expenses, contractor expenses, and the various benefits. Then, compare them to your revenue growth.

 

Follow up on last months concerns :

Take another look at last month’s issues. Whatever stood out last month (eg, a number that didn’t seem right, a certain target category, etc) should be revisited. Make sure you fixed whatever the issue was (or, you’re at least making progress on it). And, check in with your gut again – given what you know about your business paired with what you learned during your last review, do those specific numbers feel right this time? Again, there’s no right or wrong answer to that question. You’re just trying to learn about categories that stood out to you.

 

Action Item:

 

Generate a Profit & Loss. Review it for a general understanding of your business.

And, if you don’t know how to prepare a P&L: log into your accounting software, navigate to reports, then Profit & Loss (or, sometimes, Income Statement. They’re the same thing.), and select these three options: 1, either ‘last 12 months’ or ‘last quarter’, 2, cash basis, and 3, ‘compare to 2 previous periods’. Ignore the other options for now. We’ll get into those once you’re a little more experienced.

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