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What is Profit and Loss (P&L) and how is it calculated?

June 17, 2022

8 min

What is Profit and Loss (P&L) and how is it calculated?
Beginner

If you take a deeper look into what Profit and Loss (P&L) is, you will find out that it is widely used in business management and business economics. However, to make the most of it, the first step is to understand what P&L means and how it works.

It is also possible to apply it to other areas, such as cryptocurrency trading. In fact, there is a specific function on Young Platform that automatically counts the profit and loss on all trades made. Let’s find out together how P&L is calculated and why it is important in managing our finances.

What Profit & Loss (P&L) is in economics

In any sort of economic activity, it is good practice to record income and expenditure, i.e. what are the costs and the gains of our activities are. The difference between income and expenditure flows determines net profit, which can of course also be negative. A simple but effective tool that is widely used for this purpose in business economics and management is Profit&Loss (P&L):

Profit&Loss (P&L)

Profit&Loss (P&L) is a financial instrument summarising revenues, costs and all expenses incurred during a specific period of time. The result can be either a profit or a loss

Starting from a basis of business economics and the original meaning of P&L, you can also apply this concept to cryptocurrencies. Indeed, it will allow you to understand how your assets are performing and possibly how to optimise your operations.

With regard to the activity of buying and selling cryptocurrencies, the variables to be taken into account (in addition to the risks arising from market fluctuations) are the following:

  • Costs – these are mainly variables such as trading commissions, the price of training (if any) or charges for purchasing hardware or software to facilitate trading. On Young Platform’s Academy you can find a section dedicated to trading with free training content.
  • Expenses – these are fixed and recurring expenses, including for instance electricity bills, possible hardware rental, server maintenance costs for earning, and internet subscriptions
  • Revenue – this category includes everything received, e.g. from trading, earning services, mining or more generally from Yield Farming rewards

How is P&L calculated?

Now that you understand what P&L is, and what variables are to be taken into account to calculate it, the next step is to understand how to write a report and thus how P&L is calculated.

There are mainly two mutually exclusive Profit and Loss methodologies applicable to any economic activity, including cryptocurrencies:

  1. Cash principle – the 3 elements that make up P&L (costs, expenses and income) are only recorded when the outgoing or incoming money transactions actually occur. For example, for  earnings, income will only be recorded once rewards are actually collected. For trading, the gain/loss will be recorded as soon as you close your positions;
  2. Accrual principle – with this methodology, the 3 elements of P&L are recorded as soon as we become aware of future income/expenses. Basically, as soon as we know for sure that we will have expenses or income in the future, we can then enter the corresponding amounts in the P&L calculation. For example, if we are mining,  we can record the costs of the electricity bill as soon as we know how much we will have to pay and without waiting for the bill to be issued by the operator;

The choice of which methodology to adopt is not trivial and depends on many factors. Usually, smaller companies use the cash principle because it is easier to manage, while larger companies use the accrual principle because they have more resources to devote to accounting. Similarly within trading, or concerning cryptocurrencies in general, it makes more sense to use the cash principle if the activities carried out are few and simple. Conversely, if your activities are more varied and more complex, it could make sense to use the accrual principle.

How to read a financial report

It is not enough to know the principle behind which P&L calculation is carried out. Conducting a correct reading and interpretation of a P&L report is equally important. It allows you to know how things are going, so that you can make any improvements and especially, you can understand in which sections you need to intervene.

A financial report is mainly composed of values referring to comparable time periods. For example, in trading it is useful to compare P&L from year to year, or from quarter to quarter, so that you can immediately see if your strategy requires balancing.

Here are the basic steps to read a P&L report correctly:

  • Find your sources of revenue – the first thing to do is to understand where your revenue is coming from. If you’re undertaking several activities at once, such as trading and Yield Farming, you will need to separate the two;
  •  Find your net income – the next step is to find out how much you actually earned. For trading, you will need to subtract the various costs and expenses from the successful outcome of all trades. For earning services, you will need to subtract all costs incurred from the rewards earned. Of course, you may also find yourself in a loss situation, but the formula will always be: Profit (or loss)= revenue – costs – expenses;
  • Identify areas for improvement;
  • Take action – make the necessary improvements, if possible.

Here is an example of a P&L report, a simplified profit and loss account:

an example of a P&L report

Profit&Loss on Young Platform

Moving from traditional economics to trading, the meaning of Profit and Loss is still the same, but it is used in a different and much more specific way. To experience this, within the Young Platform exchange, you have the opportunity to take advantage of the P&L functionality free of charge, in the Analytics section. This type of P&L only concerns your buying and selling transactions on Young Platform. It allows you to know, in real time, how your cryptocurrencies and portfolio are performing and it can help you with your strategies.

The information that the P&L tool can provide you with for trading is calculated in a very simple and automatic way thanks to two pieces of data:

  1. The current market value of your Wallet, i.e. the balance given by your cryptocurrencies expressed in Euros;
  2. The Purchase Price you paid to get what you have in your Wallet.

The formula is: (Portfolio Value – Purchase Price) / Purchase Price =% P&L

Another interesting figure is the average purchase price of a cryptocurrency, i.e. the average of all purchase prices of a single coin or token.

For example, if you bought Ethereum on Young Platform 3 times, the P&L will calculate the average of the 3 prices. Let’s say you bought it the first time at €1500, the second time at €1800 and the third time at €2000. Average price = (1500 + 1800 + 2000) / 3

You will have an average purchase price of €1767 (approximated by excess), which means that if the price of Ethereum falls below this level, buying more will lower the average purchase price. If on the other hand the price of ETH exceeds 1767€, selling the coins would allow you to make a profit.

Profit&Loss (P&L) can be a valuable ally in business management but also in all activities typical of the crypto world. P&L calculation can be almost completely automated, just like on Young Platform, which saves you time and provides constant access to information.

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