A ‘Profit / Loss Statement’ details the performance of a company. Performance is the result of an activity which takes time. Any activity by definition has a start, a process and an end. Because of its very nature, every time we want to understand the performance of a process we need to define a period during which we are attempting to study it. Hence the basis for drawing or creating a ‘Profit / Loss Statement’ is to define a period (a clear start and end point).
The usual period during which this statement is prepared is 01st April to 31st March every year. This is called a ‘financial year’. In fact an income statement can be prepared for any period of time. Ideally entrepreneurs must prepare (request their accountants to prepare) income statements every month and keep a tab on the performance. How does one read the income statement to make sense of the performance of a company?
Take any income statement and it is normally read top-down. It has revenues at the top, followed by expenses and ends with profit / loss. All sources of incomes earned during the period are added to calculate revenue for the company. The sum total of all revenues earned during the period under consideration is called ‘Income’ or ‘Revenue’ or ‘Top Line’. To generate the revenue for the period, all expenses incurred are identified and come in the expenses portion of the income statement. Once the expenses are deducted from the revenue, what remains is called surplus / deficit. If it is surplus, it is termed ‘profit’ and if it is a deficit, it is termed ‘loss’. This is the first level of understanding an income statement. Once we cover understanding of the basic structure of the three financial statements, we will come back to understanding more detailed variations of the statements that are made by various organizations.