The P&L account and Balance Sheet

Introduction 

The P&L account and Balance Sheet are two of the main statements, in the set of financial accounts for a UK company. Key to note, both of these are effectively financial reports for your small business. These reports are also known as the financial statements and we will take a look here at how the P&L (Profit and Loss account) and Balance sheet work. Please note, all small companies, as well as large companies need to file formal accounts with the UK authorities for each of their accounting periods.

Your business will have a company `year-end.’ Please note, this is the date in the calendar year, that the accounts are `made up to.’ Therefore, if your company year-end is 31 December 2022, this is the `made up to’ date. Ordinarily, your company will need to file accounts for every 12-month period.

When you have your own UK company, there are two UK authorities that you will need to file your accounts. As mentioned, you will need to do this every 12-month period and these authorities are:

The P&L account and Balance Sheet -abbreviated accounts 

Key to note, every year, an abbreviated version of the accounts need filing with Companies House. Please be advised, we have a separate article that shows all of the company / personal tax filing requirements, when you run your own business. The abbreviated accounts, that are filed with Companies House, show less information than the full version. To sum up here, they only show the data that is required to comply with current requirements. Therefore, they do not include the profit and loss statement, but they do contain the Balance Sheet. In contrast, the full accounts and business Tax Return (CT600) need filing with HMRC.

There are two key pages in a set of company annual accounts. First of all, there is the Profit and Loss Account. Next, there is the Balance Sheet and we will now take a good look at these pages. Importantly, both of them provide key information, with regards to your business’ finances.

The Profit and loss account and Balance Sheet -the two main pages in company accounts 

Profit and Loss account

The Profit and Loss statement in a UK company’s set of annual accounts, will show the business’ trading results. These will be for a period of time, usually this will cover a yea. In addition, the P&L account will also show how well the business has or has not done.

Please note, the P&L account is also known as the company’s income statement. In effect, this shows the company’s total revenues and expenses. Therefore, the profit and loss statement UK will display the company’s activities during the year in terms of trading and other income and expenditure. To explain, here is an example of a P&L template for a financial year:

Profit and Loss account example
Turnover            50,000
Cost of sales or cost of goods sold –         15,000
Gross profit margin            35,000
Administrative expenses –         10,000
Other income                  500
Operating profit and profit before tax *            25,500
Corporation Tax –            4,845
Profit after tax -net profit            20,655 This is the amount that is available in the financial period to be paid as dividends.

* The operating profit is the total profits from a company’s business operations, excluding the deductions of interest and tax.

UK company Balance Sheet

This one of the main pages in the financial accounts. Importantly, it displays the business’s financial health. Now, let’s take a look at how to read a Balance Sheet. Key to note, this is a snapshot of the company’s total assets and liabilities as at the date that the accounts are made up to. This will include the balances owed to and by the business at the Balance Sheet date. Most important, this shows the financial position of your company at that point in time. In addition, it also shows the shareholders’ equity and any retained profits (not yet distributed as dividends) that will be available the following year. Again, it is important to note that all of the values that display on the Balance Sheet are those as at the business year-end date.

As mentioned, the Balance Sheet provides a snapshot of a moment in time. To clarify, it shows where the company stands with its finances as the Balance Sheet date.

The Balance Sheet also shows how the business’ finances its assets, be it through shareholder’s equity or as debt under liabilities. In addition, it will also show how efficiently the business is using its resources.

When we look at how to read a Balance Sheet, the main components are:

  • Fixed assets.
  • Current assets.
  • Current Liabilities.
  • Shareholders’ funds.

Cash flow statement

Companies can also include a cash flow statement in their accounts, after the Balance Sheet but before the notes to the accounts This statement details the exact amount of a company’s cash inflows and outflows, over the financial period. Many smaller companies include an income statement in their accounts and this is the most common financial cash flow type statement. This will show a company’s revenues and total expenses which include noncash accounting, such as depreciation.

The main types of financial tags that appear in company accounts 

Fixed Assets

Fixed assets will normally include computer equipment, office equipment and motor vehicles. Please note, these are known as tangible assets. Furthermore, the Net Book Value of the fixed assets show on the Balance Sheet.

Included within fixed assets may be intangible assets. What’s more, these are assets that are not physical in nature. Kindly note, this will include goodwill, intellectual property, patents, trademarks, copywrites etc.

Current Assets

Please note, a company’s current assets will normally include:

  • The Company bank account balances. Included here, is the total of all company bank accounts as at the Balance Sheet date.
  • The company’s receivables at the Balance Sheet date. These are also known as trade debtors. What’s more, these are the accounts receivable and this shows the amounts owed to the company by its clients.
  • The value of any stock. Please take note, the stock will be listed at cost price.
  • Any other amounts that are owed to the company. Please note, these could include any loans, such as any director’s loan accounts. These will show in the accounts as other debtors.

Cash flow statement

Companies can also include a cash flow statement in their accounts, after the Balance Sheet but before the notes to the accounts. Please note, this statement details the exact amount of a company’s cash inflows and outflows, over the financial period. Kindly note, many smaller companies include an income statement in their accounts and this is the most common financial cash flow type statement. In short, this will show a company’s revenues and total expenses which include noncash accounting, such as depreciation.

Current liabilities -creditors under and over one year

A company’s current liabilities include all of the amounts owed to third parties, at the Balance Sheet date. Please note, this will include both short-term and long-term liabilities. On the Balance Sheet, it will show separate totals for the creditors due under one year and over one year. Notably, the sum of these two amounts are the company’s total liabilities owed at the Balance Sheet date. Typically, creditors are made up of the following items:

  • The amounts that are owed to the tax offices. Please note, this will include amounts owed for Corporation Tax, VAT and PAYE/NIC.
  • Any bank loans and overdrafts that are owed. That is to say, this will include the balances owed per the banks as at the Balance Sheet date.
  • The amounts owed by the company to its suppliers. Notably, the official term for this is trade creditors. Kindly note, these are the accounts payable and this shows the amounts owed by the company to its suppliers.
  • The amounts that are payable for any costs and expenses as at the year-end. Please note, we call this the accruals.
  • Any other amounts owing by the company at the Balance Sheet date. Please take note, this could include a company credit card or director’s loan account.

The P&L account and Balance Sheet -shareholders’ Funds

The shareholders’ equity or shareholders’ funds represent the company’s assets minus its liabilities. To clarify, these show the company’s net value/worth at the Balance Sheet date. Therefore, to summarise, this is effectively the owner equity and it is made up of the share capital and share premium account as well as the company’s retained earnings.

The shareholder’s fund section on the Balance Sheet is key financial information. Effectively, this shows the value, when converted into cash, which would return to the shareholders if the company closed down as at the date of that the accounts are currently made up to. Please note, if this took place, the business would cease operations. As part of this, it would liquidate all of its assets and settle all of its liabilities, and then pay out all remaining funds to the shareholders.

In a typical contractor company, the shareholders’ equity is usually the sum of the share capital and the retained profit and loss account. Importantly, the P&L account figure shows the profits of the business to date, which is still payable as dividends or payable as capital when the company closes down.

Further thoughts   

What is the difference between the two key pages?

The key differences between the two pages are:

  • The Profit and Loss account shows how well the business has done. Please note, this shows the business income and expenses. What’s more, it informs the reader if the company has made a profit or loss during the accounting year.
  • In contrast, the Balance Sheet shows you how much the company is worth. Therefore, it shows its actual value at the year-end date. Furthermore, it also shows all of the amounts that are due to and from the company. Included in this is any long-term liabilities.

How important are financial accounts for contractors?

To sum up, as a contractor with your own company, you need to prepare and file your accounts with the official bodies by law each year. Further to this, you are not likely to require them for any other purpose other than sending them to Companies House and HMRC. Most important, the P&L account and Balance Sheet are the statements that show your business’ financial results and latest position.

However, if you apply for a mortgage, the mortgage provider may ask you to provide copies of your accounts to the lender. As a result, your accountant will normally help you to do this.

In contrast, for other businesses, accounts are key documents. Key to note, they show how well the business is performing. In conclusion, lenders and potential investors will use the accounts to show how well the directors manage the company, in terms of its finances.

Today, accountants will produce a company’s financial accounts on accounting software. In addition, there is also now online accounting software to help maintain your company’s book-keeping, VAT reporting and payroll processing / reporting.

Final thoughts

The Profit and loss account and Balance Sheet are two key statements in the year end accounts. Notably, the mechanics of these are quite technical, but they may be of interest to you as a business owner. Your accountant will take care of the work when they prepare your accounts, and with your help, they will make sure that the accounts are correct. What’s more, as you can see, there are two key pages, and these will show how your business is doing financially. As a final note, you can also review the accounts and these will give you some clues about where you can improve things.

Link to Contractor Advice UK group on

LinkedIn    https://www.linkedin.com/groups/4660081/

Published On: March 20th, 2021 / Categories: Running Your Own Company /

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