Dynamics of Profit and Loss Statement

The Profit and Loss Statement of a business or a company tells a lot about the business. Analysing the statement historically can give one important insights into the functioning of the business. The Profit and Loss statement tells us about what the business has done and what it has earned over a period of time. It tells us about the working dynamics of the business.

The Profit and Loss statement consists of following parts, in general:

1. Operating Revenue
2. Cost of Raw Materials
3. Purchase of Traded Goods
4. Salaries and Wages
5. Sales, Promotion and Marketing Expenditure
6. Other Expenditure
7. Depreciation
8. Financial Expenditure
9. Other Income
10. Taxation
11. Profit after Tax

The Operating Expenses which includes the items from 2-6 above will tell you much about the nature of business. The percentage of Cost of Raw Materials and Traded Goods to that of Operating Revenue will tell you whether the business is a commodity business or branded one. Suppose, if the percentage of Cost of Raw Materials and Traded Goods to that of Operating Revenue is around 30%, then surely its the brand and quality for which the customer is paying. If its around 80%, then the customer is basically paying for the commodity. 

Lower percentage of Cost of Raw Materials means higher Operating Margins for the business. The business will be able to pay its employees handsomely. It also indicates towards ensuing competition and thus higher spending of branding, promotions, advertisements to have customer loyalty and recognition.  Higher percentage means lower Operating Margins. The business will keep a strict tab on employee count and salaries. It indicates towards saturation of the business sector and commoditisation of the business.

Another important aspect in the Profit & Loss Statement of a business is Depreciation. Depreciation costs results from depreciation of Fixed Assets in the Balance-Sheet. Higher Depreciation costs will result in lower Net Profits, but improved Operating Cash Flows. Higher Depreciation costs also cause companies to escape taxation costs for the said period.

Thus, careful analysis of Profit & Loss statements of the business can indicate towards key variables of the business. Careful monitoring of these key variables can help one in prediction of future revenues and profitability of the business.