The profit and loss statement, line by line

How revenue becomes profit, one line at a time, with a worked example.

Key takeaways

The profit and loss statement (P&L, also called the income statement) starts with the money a company earns and subtracts each type of cost, one line at a time, until only profit is left.
Common mistakes: Mixing up gross margin and net margin.
Almost every profitability case is about one or two lines of this statement.

Key idea

The profit and loss statement (P&L, also called the income statement) starts with the money a company earns and subtracts each type of cost, one line at a time, until only profit is left.

Almost every profitability case is about one or two lines of this statement. If you know what each line means, you can find the problem fast. Below is a simplified P&L for a coffee chain in Germany, in millions of euros.

Simplified P&L of a coffee chain in Germany, one year(EUR millions)

Simplified P&L of a coffee chain in Germany, one year
Line	Amount	What it means
Revenue	200	All money from sales
Cost of goods sold (COGS)	-70	Direct cost of what was sold: coffee, milk, cups
Gross profit	130	Revenue minus COGS
Operating expenses	-100	Running the business: staff 50, rent 30, marketing 10, other 10
EBITDA	30	Profit before interest, tax, depreciation, and amortization
Depreciation and amortization	-10	The cost of equipment, shop furniture, and building work spread over their life
EBIT (operating profit)	20	Profit from running the business
Interest	-4	Cost of borrowing
Profit before tax	16
Tax	-4	Here 25 percent of profit before tax
Net profit	12	What is left for the owners

So-what

Each line is a place a profit problem can hide. Compare each line with last year, or as a share of revenue, to find which one moved.

Worked case

Calculating the margins from the P&L

The prompt

Using the coffee chain P&L above (EUR millions), calculate gross profit, EBITDA, EBIT, net profit, and the gross and net margins.

Open this case to practice it with a partner

The structure

Work down the P&L from revenue to net profit
- Gross profit = revenue minus COGS
- EBITDA = gross profit minus operating expenses
- EBIT = EBITDA minus depreciation and amortization
- Net profit = (EBIT minus interest) minus tax

Working it through

1. Gross profit
Revenue 200 minus COGS 70.
Gross profit (EUR millions):200 - 70 = 130
2. Gross margin
Gross profit as a share of revenue.
Gross margin (fraction):130 ÷ 200 = 0.65
3. Operating expenses
Add staff, rent, marketing, and other costs.
Operating expenses (EUR millions):50 + 30 + 10 + 10 = 100
4. EBITDA
Gross profit minus operating expenses.
EBITDA (EUR millions):130 - 100 = 30
5. EBIT
Subtract depreciation and amortization.
EBIT (EUR millions):30 - 10 = 20
6. Net profit
Subtract interest of 4, then tax of 25 percent: keep 75 percent of 16.
Net profit (EUR millions):(20 - 4) × 0.75 = 12
7. Net margin
Net profit as a share of revenue.
Net margin (fraction):12 ÷ 200 = 0.06

The recommendation

Gross margin is 65 percent but net margin is only 6 percent. Most of the money goes on running the shops (staff and rent), so that is where a profit case on this business would usually look first.

Timed math drill

A retailer in India has revenue of INR 500 crore, COGS of INR 300 crore, and operating expenses of INR 120 crore. What is its EBITDA margin, in percent?

Common mistakes

Mixing up gross margin and net margin. Treating EBITDA as cash (it ignores spending on equipment, cash tied up in working capital, interest, and tax). Forgetting that depreciation is a real cost even though no cash leaves that year. Comparing margins across industries: a supermarket with a 3 percent net margin can be healthy, while software with 3 percent may be in trouble.

Check your understanding

Which line holds the direct cost of the products a company sold?

Check your understanding

Revenue grew 10 percent but net profit fell. Where should you look first?

Check your understanding

What does EBITDA leave out?

Terms in this lesson

Income statement (P&L)Revenue COGS (cost of goods sold)Gross profit and gross margin Opex (operating expenses)EBITDA Depreciation and amortization EBIT and operating profit Net income

Sources for this lesson (1)

Recognized public explanations of case-interview concepts and frameworks

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