Profit and Loss Basics - Are You Making These Key Mistakes?

Are you falling prey to the most basic mistakes in reading a Hotel Profit and Loss Statement?

Critically, this results in flawed analysis and worse bad decisions taken on that basis.

You would not want that happening do you?

This post is a 3 part series about fixing those most basic mistakes in reading the Profit and Loss Statement (also known as Income Statement).

Each part will deal with one basic mistake made in reading a Profit and Loss Statement.

This is Part 1 of the 3 part series.

I will lay out a case with examples which will banish these basic mistakes forever.

This will sky rocket the success of your decision making.

And build financial skills, knowledge and ability in you in the process.

How about that?

This blog post is about how you can go about ensuring you read your Profit and Loss Statement correctly.

Without making basic mistakes - your biggest performance killer.

This blog post will cover:

Profit and Loss Statement & Falling Short of Performance Targets

As a hotel manager you have your work cut out for you running a busy operation.

Your hotel for the most part is running high occupancy levels (despite covid-19 denting that quite a bit).

Your 24 hour day seems ridiculously short.

You are scrambling from pillar to post to meet deadlines, and achieve targets.

In the process, you are required to: 

• read,
• understand and
• then act

on the business results of your hotel Profit and Loss Statement.

However, you constantly find that: 

• decisions you take
• do not produce the business results

you had budgeted or forecast.

You are never certain that you will be able to achieve your performance targets which for the most part are about revenue and profit.

What is going on?

Why is it that your assumptions in taking decisions (financial, a lot of times) are falling short?

Where are you going wrong?

Is there some secret recipe to Learning Hotel Profit and Loss Basics?

And the ability to read a Hotel Profit and Loss Statement correctly?

Not to mention taking successful decisions consistently?

I am glad you asked these questions.

There is.

And it is simpler than you thought it would be.

However, it will require an approach.

Are you ready?

Let me first use a metaphor that will bring out the secret recipe.

Let's go!

Profit and Loss Basics and Story of the Silo

Ever heard of Silos?

What is that you ask?

Well, silos are those tall, vertical cylindrical containers which store grain.

If you have passed through a typical country side you would have seen them rising up.

These containers have some unique characteristics.

To begin with, they are independent units, as in, they stand by themselves.

And they are not connected to each other.

This is important to remember.

Silos are standalone containers.

By now, you are looking at me in disbelief.

That I am launching into a description of an object that has nothing to do with the hotel Profit and Loss Statement.

Or does it?

I am about to surprise you.

Want to know more about the Story of the Silo?

WATCH this video.

Secret to Reading Hotel Financial Statements

One of the critical skill sets required of hotel managers is the ability to read financial statements.

It is also the skill set which is often found wanting in hotel managers.

This affects their performance and successes a great deal.

This is probably their biggest frustration.

The financial statement that is most familiar to hotel managers is the Profit and Loss Statement.

They get it each month.

And they have to: 

• read it,
• understand it and
• take decisions

based on their analysis.

Decisions that often will mean hundreds of thousands of dollars being at stake.

It is a tough responsibility.

Let me go back to that metaphor of the Silo that I used earlier.

The Secret to reading hotel financial statements and the Profit and Loss Statement in particular has something to do with that Silo!

You are giving me that disbelieving look again.

I will shortly clear the air on that.

The trouble is that hotel managers treat even their Profit and Loss Statements like Silos.

What, you are confused!

Hang on, I am almost there.

There are important elements of a Profit and Loss Statement that a hotel manager has to deal with regularly.

What elements you ask?

I am coming to that.

Elements like: 

• revenue,
• expenses and
• profit.

It is important thus to understand that these elements of a hotel Profit and Loss Statement are not Silos.

Or they are not independent.

They are not unconnected.

What are they like if they are not like Silos, you ask impatiently?

They are actually like a pipeline.

You know those cylindrical objects that carry water, oil etc.

Their most unique quality is: they are interconnected.

One leads to another and then on to another and so on.

Well, elements of the Profit and Loss Statement are also like that pipeline.

They are connected.

And therein lies the secret of reading a Profit and Loss Statement.

You are still not sure.

Let me clarify.

Profit and Loss Basics - The Revenue - Expense Relationship

The Profit and Loss Statement is ruled by relationships among its elements.

This means that revenue, expense and profit are related in numerous ways.

It also means that every number or figure in the Profit and Loss Statement is related in one way or the other to every other number or figure.

Just like a pipeline!

Remember that metaphor we just discussed.

If you remember this cardinal principle, your learning how to read the profit and loss statement will become powerful.

What is the most critical relationship in the hotel profit and loss statement, you ask eagerly?

Coming right up.

The Revenue Expense relationship

The Revenue Expense relationship brings out a key ingredient in earning that revenue - expense.

In general, expenses are required to be incurred to earn revenue.

Revenue does not happen by itself.

It has to be invoked. 

That is achieved by incurring expenses.

The Revenue Expense relationship may be a: 

• direct or indirect one or it could be a
• proportionate or disproportionate one.

A direct expense relationship with revenue is an expense that must be incurred to earn that revenue.

Examples

For example:

• in order to earn revenue from a guest room,
• expenses have to be incurred on that guest room.

Expenses like a key card, amenities placed in the room, linen supplies and so on.

Another example of direct expense is the:

• direct cost of preparing a menu item
• which is served in the restaurant.

If that preparation cost is not incurred:

• the menu item cannot be served and thus
• there is no revenue earned.

We can go as far to say that:

• if these expenses are not incurred,
• that room / menu item cannot be sold and
• revenue earned.

These are expenses directly related to revenue.

An indirect expense is:

• something that must be incurred but
• cannot be directly related to a particular chunk of revenue
• like the guest room in our example.

Example

For example: 

• Shuttle Bus expenses are incurred
• to bring a hotel guest from the transportation hub (airport, train or bus station etc.)
• to the hotel (and back).

That expense is necessary.

However, it cannot be attributed directly to any specific part of the room revenue earned.

This is because many guests would be using that shuttle bus.

Proportionate expenses are expenses incurred which have a certain proportion to the revenue earned.

Example

For example, Food Cost of preparation of a menu item has a certain proportion to the sale price of the menu item.

It is true though that the proportion may be moving within a certain range.

Food cost may be:

• 38% of the sale price of one menu item while it may be 
• 40% for another menu item.

Disproportionate expenses are expenses incurred which do not have a certain proportion to the revenue earned.

They are often incurred as a routine and do not show any proportion to the revenue incurred.

In the Shuttle Bus expenses example:

• the expenses are a routine running of the bus and thus
• have no proportional relationship to the room revenue earned.

Profit and Loss Basics - The Revenue - Profit Relationship

Among the relationship that we saw this far, we could say we saw the means to an end.

But the most consequential relationship in a profit and loss statement is one we have not seen yet.

It is the end, instead of just a means to an end.

Let me explain.

The goal of a business is to deliver a return on the owner investment.

Profit achieves that through the Revenue Profit relationship.

The simple equation, if you want to call it that is:

• What is retained (profit) from 
• What is earned (revenue).

Although it may not be so apparent, what is retained (profit) has two elements to it:

• Revenue and 
• Expenses.

If you are, say, comparing two different months of business operation, one of the first questions we ask is:

• Did revenue increase?

And then we ask:

• Did expenses in earning that revenue increase?

Both these factors determine what is retained (profit).

Let us look at revenue increase first.

A revenue increase may or may not result in a profit increase.

Usually, it does.

But why does it not in some situations?

That is dependent on two things:

• Composition of the revenue itself and
• Expenses incurred to earn that revenue.

Let us deal with the expense part here.

In the Revenue Expense relationship topic earlier you saw how expenses could be proportionate or otherwise.

This means that:

• if the expense is proportionate,
• any revenue increase will result in a proportionate increase in expense.

This also means that profit or what is retained will be proportionately the same.

These are simple examples of how understanding relationships among elements of the Profit and Loss Statement make reading it easy.

And make your analysis and decision making more successful.

it is not merely a matter of knowledge.

It brings in a 3 dimensional learning perspective.

Of building financial skills, knowledge and ability.

Want to go in depth on learning hotel profit and loss basics?

In Fast, Jargon Free, Actionable language?

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Using Financial Skills to Influence Business Results

What is a hotel manager's top priority?

To take sound financial decisions that will influence business results positively.

Financial Skills Academy courses are not just about teaching knowledge.

Knowledge is tied in with specific skill sets.

For example:

• if the course talks about results based budgets and forecasts,
• at the end of course you will have acquired the skills to produce budgets that deliver results.

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Along with knowledge and skill sets, Financial Skills Academy will enhance your ability as well.

If skill sets are about proficiency in a certain topic or area, ability will be the litmus test.

It will test whether you have learned how to apply the skill in a particular situation.

A typical problem situation you will commonly face in your operation.

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You will be a vastly better manager after taking our courses.

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By building financial skills, knowledge and ability in you in less than half hour.

What?

Yes!

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29 minute Nuggets Series

The 29 minute Nuggets Series from Financial Skills Academy is your answer to frustrations on reading a hotel profit and loss statement.

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In 29 minutes to be precise!

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The first two courses in the 29 minute Nuggets Series address these frustrations head on.

They cover the two most critical financial statements hotel managers must know to understand and interpret:

• Hotel Income or Profit and Loss Statement and
• Hotel Balance Sheet.

Read an Income Statement Easily in 29 minutes course is available now (at limited time whopping 50% OFF!!).

Read a Balance Sheet Easily in 29 minutes course is coming soon.

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• Financial Skills Academy have been releasing Free Video Courses that you can take just by signing up [no credit card required - just email address]. Some do not even require signing up. 

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Financial Skills Academy Membership

• Financial Skills Academy is excited to report that it will soon be launching a Financial Skills Academy Membership program specifically designed for hotel managers.
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