There are three financial statements pertaining to measuring a company’s financial health.  They are the Profit and Loss, the Balance Sheet and the Cash Flow statements.  Today we will talk about the Profit and Loss statement.  The P&L measures and details a company’s revenues and expenses over a set time period such as quarter over quarter or year over year. 

The statement comprises four basic parts 1) Sales or revenues 2) Cost of goods or cost of sales 3) Gross Profits and 4) Expenses.  The Net Income or earnings is calculated by subtracting the total expenses from the total revenue.  The company creates top line revenue or sales and then subtracts returns and damaged merchandise to arrive at Net Sales.  Cost of goods is then subtracted from Net Sales resulting in Gross profits.  Operating Expenses are then subtracted to reveal the Operating Profit of the company.  Other income is added back in and then Interest, Taxes, Depreciation and Amortization is debited to finally arrive at the bottom line Net Profit.

From an investor’s perspective, the question may be asked, “What are we looking for in the Profit and Loss Statement”?   The answer is that the statement can reveal how healthy the margins are and whether or not the company is growing its earnings.  At some point in the future earnings will translate to stock price.  Each sector and industry will have a multiple of earnings that is generally attributed to those companies in that sector and industry.  When doing a comparative analysis of a particular company, an investor can compare the company to its peers and sometimes be able to pinpoint when a company appears to be undervalued.  The P&L statement can help uncover such opportunities.   Next week we will touch on the Balance Sheet.

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