The Importance Of Understanding Your Profit And Loss Statement

One of the most frustrating things for many small businesses is realizing that their

finances are a mess even though they "thought they were doing fine." Either they neglected basic expense tracking or they didn't really pay attention to creating a profit and loss statement with their small business accounting software. Regardless, ignoring this clear, powerful, and essential information has led to the downfall of many businesses that could have survived and prospered if they only looked at this information and used it to make purchase and budgeting decisions.

Even the simplest suggestions for small business owners include learning to value and understand basic accounting tools and financial documents. And the profit and loss statement is paramount among them. Of course, to get there a small business owner has to actually keep good financial records and use something like free accounting software. Then, there's a line between keeping the books and understanding what financial documents say about a business. And as a business grows this difference becomes more important because the act of accounting becomes too time consuming for the head of the business. But even when bookkeeping changes hands, the owner and business head should never delegate the responsibility of interpreting what that information means for the business.

So as a small business owner, if you are already taking the time to look at and interpret your P&L, you're doing at least one thing right. It's not necessary to agonize over these kinds of documents on a weekly basis, but monthly is appropriate. Even if you are the sole employee of your business, you should be making budgeting decisions and planning resource allocation, projecting future income and expenses based on past performance and any possible growth expectations. You can't form these initial estimates and projections, nor figure out how much money you have that can be allocated in a budget, without an understanding of your P&L and revenue streams. And then, you can't look at where you're making and losing money to figure out the right decisions for that budget if you don't have that profit and loss data.

It's clear that a P&L statement is a powerful accounting tool that a business of any size can benefit from. If you have costs and income, you can make one and analyze what you're doing to find inefficiencies to leave behind and underexploited opportunities. Although the profit and loss statement is a reflective tool - it only gives you concrete numbers about what has already happened - that is enough. In fact, compared to what a business owner who is making all her production, purchasing, and marketing decisions based on gut and a vague sense of what's going on, it's more than enough. It's superior.

by: John V

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