Common size profit and loss statement: vertical and horizontal analysis, with an example

Short answer: a common size profit and loss statement shows every line as a percentage of sales: line ÷ total sales × 100. Sales are always 100%, and every cost and profit line is a share of that. This is called vertical analysis, because you read down one column. Horizontal analysis reads across instead: it puts this year beside last year and shows how much each line changed, in money and in percent. Use both together. Horizontal analysis shows which lines grew fastest. Vertical analysis shows whether costs grew faster than sales, which is what squeezes profit. A worked two-year example for a small print shop is below. It shows sales up 15% with profit flat, and both analyses show why.

The two sums

	What you work out	Formula	The question it answers
Vertical (common size)	Each line as a share of sales, for one period	line ÷ total sales × 100	Out of every 100 of sales, how much went on each cost, and how much was left?
Horizontal	Each line’s change from one period to the next	(this year − last year) ÷ last year × 100	Which lines grew or shrank, and how fast compared with sales?

Use total sales (Xero’s “Total Trading Income”) as the base for every line. If you have other income such as interest or a grant, leave it out of the base so it does not distort the percentages.

A worked example: a Manchester print shop, two years

A print shop selling business cards, flyers and signs. The figures exclude VAT. Sales rose from £400,000 to £460,000, but net profit went from £40,000 to £39,900. The owner’s first thought was that the new marketing spend had not paid off.

	Last year £	% of sales	This year £	% of sales	Change £	Change %
Sales	400,000	100.0%	460,000	100.0%	+60,000	+15.0%
Cost of sales (paper, ink, outsourced finishing)	160,000	40.0%	197,800	43.0%	+37,800	+23.6%
Gross profit	240,000	60.0%	262,200	57.0%	+22,200	+9.3%
Wages	132,000	33.0%	142,600	31.0%	+10,600	+8.0%
Rent	36,000	9.0%	36,000	7.8%	0	0.0%
Marketing	8,000	2.0%	18,400	4.0%	+10,400	+130.0%
Other overheads	24,000	6.0%	25,300	5.5%	+1,300	+5.4%
Total operating expenses	200,000	50.0%	222,300	48.3%	+22,300	+11.2%
Net profit	40,000	10.0%	39,900	8.7%	−100	−0.3%

What the horizontal columns say

Sales grew 15.0%. Two lines grew faster than that: marketing (+130%) and cost of sales (+23.6%). Wages (+8.0%), rent (flat) and other overheads (+5.4%) all grew more slowly than sales. Looking at the money alone, marketing is the line that stands out, which is why the owner blamed it.

What the common size columns say

Read the percentages instead and a different story comes out. Each point of sales this year is worth £4,600 (1% of £460,000).

• Cost of sales went from 40.0% to 43.0% of sales. Three points, about £13,800 of profit lost. Paper and ink went up during the year, and prices were not raised to match. This is the biggest cause.
• Marketing went from 2.0% to 4.0%. Two points, about £9,200. A real cost, but smaller than the margin.
• Wages went from 33.0% to 31.0%. Two points saved, about £9,200. The same team handled 15% more work.
• Rent went from 9.0% to 7.8%. About 1.2 points saved, about £5,400. Fixed costs shrink as a share when sales grow. This is often called operating leverage.
• Other overheads went from 6.0% to 5.5%, about £2,300 saved.

Add them up: −13,800 − 9,200 + 9,200 + 5,400 + 2,300 = −6,100, the 1.3 points of net margin lost, which is why net profit fell from 10.0% to 8.7% of sales while the money stayed flat. If gross margin had stayed at 60%, gross profit would have been £276,000 and net profit £53,700 (11.7% of sales). So the fix is mainly prices, not marketing. The price increase calculator shows how many orders a price rise could lose before it stops paying, and the margin and markup calculator works out the price for a 60% margin from the cost of each job.

The marketing question is still worth asking, but properly: did the extra £10,400 bring in enough of the £60,000 of new sales to pay for itself? At a 57% margin, it needed about £18,250 of extra sales (10,400 ÷ 0.57) just to cover its cost.

How to read a common size P&L

• Compare a line with itself over time, not with a rule of thumb. Your own last year, or the same month last year, is the best benchmark. A cost that creeps up a point a year is easy to miss in money and obvious in percentages.
• Variable costs should stay roughly level as a share. Cost of sales, card fees and commissions rise with sales. If their share rises, prices, discounts, supplier costs or waste have changed. The gross profit margin in Xero guide covers the usual causes.
• Fixed costs should fall as a share when sales grow. Rent, insurance and software do not grow with sales. If their share stays the same while sales grow, they are growing too. Fixed and variable costs shows how to sort your own lines into the two groups.
• Wages sit in between. They should fall as a share when you grow without hiring, and jump when you hire ahead of the work. The wage percentage calculator does that sum for a week or a month.
• Turn points back into money before acting. One point of sales is sales ÷ 100. A two-point change on £50,000 of sales is £1,000; on £1 million it is £20,000.
• Do not read one month on its own. A large bill or a late invoice can move a month’s percentages by several points. Compare quarters or years, or use a Profit and Loss by month to see the trend.

If you want to compare with other businesses, published industry ratios exist. In Australia, the ATO’s small business benchmarks show cost of sales, labour and rent as a share of turnover for each industry. Treat them as a rough guide: your own trend usually tells you more. For restaurants and cafés, the restaurant profit and loss statement guide shows the shares owners usually watch: food cost against food sales, drinks against drinks, and prime cost.

Doing it from Xero

1. In Xero, go to Accounting > Reports > Profit and Loss.
2. Pick the year (or the months) you want, and under Compare with add the previous period, so both years are side by side. That gives you the money columns for the horizontal analysis.
3. Xero’s standard Profit and Loss does not show every line as a share of sales out of the box. The layout editor can add formula rows that show as a percentage, which is handy for one or two lines such as gross margin (Xero custom reports shows how). For every line, the quickest way is to export to Excel or Google Sheets and add a column that divides each line by the Total Trading Income for that year (with an absolute reference to the sales cell, so you can copy the formula down).
4. Add the change columns: this year minus last year, and that difference divided by last year.
5. Highlight any line whose share of sales moved by more than about one point, then click back into Xero’s account transactions for those lines to see what changed (Profit and Loss detail in Xero shows how).

The same idea works on a balance sheet, with each line shown as a share of total assets, but for most owners the P&L is where it earns its keep. For a full year’s P&L already laid out this way, see the profit and loss statement example. For a step-by-step hunt for the cause of a fall, see why did my profit drop?.

Common questions

What is a common size profit and loss statement? A P&L with every line shown as a percentage of total sales, as well as in money. Sales are 100%, and each cost and profit line is its share of sales. It lets you compare periods, or businesses of different sizes, on the same scale.

How do you calculate a common size income statement? Divide each line by total sales for the same period and multiply by 100. If sales are £460,000 and wages are £142,600, wages are 31.0% of sales. Do this for every line, using the same sales figure as the base.

What is the difference between horizontal and vertical analysis? Vertical analysis shows each line as a share of sales within one period. Horizontal analysis compares the same line across periods and shows the change in money and in percent. Vertical shows the shape of the business, and horizontal shows how it is changing.

Why use sales as the base and not total expenses? Because sales are what every cost has to be paid from, and the percentages then add up to the profit margin. Gross profit as a share of sales is the gross margin, and net profit as a share of sales is the net margin.

What is a good percentage for each line? It depends on the industry. A café’s cost of sales is usually a far bigger share than a consultant’s, for example. The most useful comparison is your own business last year. If you want an outside check, use an industry benchmark from a source such as the ATO’s small business benchmarks.

Can I do a common size analysis on a balance sheet? Yes. Each asset and each liability is shown as a share of total assets. It shows, for example, whether money owed by customers is taking up a growing share of what the business owns.

The percentages, worked out every Monday

ReportPilot reads your Xero figures and sends a short plain-English email every Monday: how sales and profit compare with last month and the same month last year, the cash in the bank, and money owed to you that is past due. It asks Xero for read-only access, and there is a 14-day free trial with no card.