Question

what is the income statemnt

Answer 1

What is the Income Statement?

The Income Statement is one of a company’s core financial statements that shows their profit and loss over a period of time. The profit or loss is determined by taking all revenues and subtracting all expenses from both operating and non-operating activities.

The income statement is one of three statements used in both corporate finance (including financial modeling) and accounting. The statement displays the company’s revenue, costs, gross profit, selling and administrative expenses, other expenses and income, taxes paid, and net profit, in a coherent and logical manner.

The statement is divided into time periods that logically follow the company’s operations. The most common periodic division is monthly (for internal reporting), although certain companies may use a thirteen-period cycle. These periodic statements are aggregated into total values for quarterly and annual results.

This statement is a great place to begin a financial model, as it requires the least amount of information from the balance sheet and cash flow statement. Thus, in terms of information, the income statement is a predecessor to the other two core statements.

• An income statement is one of the three (along with balance sheet and statement of cash flows) major financial statements that reports a company's financial performance over a specific accounting period.
• Net Income = (Total Revenue + Gains) – (Total Expenses + Losses)
• Total revenue is the sum of both operating and non-operating revenues while total expenses include those incurred by primary and secondary activities.
• Revenues are not receipts. Revenue is earned and reported on the income statement. Receipts (cash received or paid out) are not.
• An income statement provides valuable insights into a company’s operations, the efficiency of its management, under-performing sectors and its performance relative to industry peers.

Who uses an income statement?

There are two main groups of people who use this financial statement: internal and external users. Internal users include company management and the board of directors, who use this information to analyze the business’s standing and make decisions in order to turn a profit. They can also act on any concerns regarding cash flow. External users comprise investors, creditors, and competitors. Investors check whether the company is positioned to grow and be profitable in the future, so they can decide whether to invest in the business. Creditors use the income statement to check whether the company has enough cash flow to pay off its loans or take out a new loan. Competitors use them to get details about the success parameters of a business and get to know about areas where the business is spending an extra bit, for example, R&D spends.

What are the components of an income statement?

The following information is covered in an income statement. The format for this document may vary depending on the regulatory requirements, the diverse business needs and the associated operating activities.

Revenue or sales: This is the first section on the income statement, and it gives you a summary of gross sales made by the company. Revenue can be classified into two types: operating and non-operating. Operating revenue refers to the revenue gained by a company by performing primary activities like manufacturing a product or providing a service. Non-operating revenue is gained by performing non-core business activities such as installation, operation, or maintenance of a system.

Cost of goods sold (COGS): This is the total cost of sales or services, also referred to as the cost incurred to manufacture goods or services. Keep in mind that it only includes the cost of products which you sell. COGS does not usually include indirect costs, like overhead.

Gross profit: Gross profit is defined as net sales minus the total cost of goods sold in your business. Net sales is the amount of money you brought in for the goods sold, while COGS is the money you spent to produce those goods.

Gains: Gain is a result of a positive event that causes an organization’s income to increase.  Gains indicate the amount of money realized by the company from various business activities like the sale of an operating segment. Likewise, the profits from one time non-business activities are also included as gains for the business. For example, company selling off old vehicles or unused lands etc. Although gain is considered secondary type of revenue, the two terms are different. Revenue is the money received by a company regularly while gain can be accounted for the sale of fixed assets, which is counted as a rare activity for a company.

Expenses: Expenses are the costs that the company has to pay in order to generate revenue. Some examples of common expenses are equipment depreciation, employee wages, and supplier payments. There are two main categories for business expenses: operating and non-operating expenses. Expenses generated by company’s core business activities are operating expenses, while the ones which are not generated by core business activities are known as non-operating expenses. Sales commission, pension contributions, payroll account for operating expenses while examples of non operating expenses include obsolete inventory charges or settlement of lawsuit.

Advertising expenses: These expenses are simply the marketing costs required to expand the client base. They include advertisements in print and online media as well as radio and video ads. Advertising costs are generally considered part of Sales, General & Administrative (SG&A) expenses.

Administrative expenses: It can be defined as the expenditure incurred by a business or company as a whole rather than being the ones associated with specific departments of the same company. Some of the examples of administrative expenses are salaries, rent, office supplies, and travel expenses. Administrative expenses are fixed in nature and tend to exist irrespective of the level of sales.

Depreciation: Depreciation refers to the practice of distributing the cost of a long-term asset over its life span. It is a management accord to write off a company’s asset value but it is considered a non-cash transaction. Depreciation mainly shows the asset value used up by the business over a period of time.

Earnings before tax (EBT): This is a measure of a company’s financial performance. EBT is calculated by subtracting expenses from income, before taxes. It is one of the line items on a multi-step income statement.

Net income: Net profit can be defined as the amount of money you earn after deducting allowable business expenses. It is calculated by subtracting total expenses from total revenue. While net income is a company’s earnings, gross profit can be defined as the money earned by a company after deducting the cost of goods sold.

Uses of Income Statements

Though the main purpose of an income statement is to convey details of profitability and business activities of the company to the stakeholders, it also provides detailed insights into the company’s internals for comparison across different businesses and sectors. Such statements are also prepared more frequently at the department- and segment-levels to gain deeper insights by the company management for checking the progress of various operations throughout the year, though such interim reports may remain internal to the company.

Based on income statements, management can make decisions like expanding to new geographies, pushing sales, increasing production capacity, increased utilization or outright sale of assets, or shutting down a department or product line. Competitors may also use them to gain insights about the success parameters of a company and focus areas as increasing R&D spends.

Creditors may find limited use of income statements as they are more concerned about a company’s future cash flows, instead of its past profitability. Research analysts use the income statement to compare year-on-year and quarter-on-quarter performance. One can infer whether a company's efforts in reducing the cost of sales helped it improve profits over time, or whether the management managed to keep a tab on operating expenses without compromising on profitability.