An income statement is an essential financial document for any business. Income statement provides clear data about the company’s revenue and loss over a period of time.
What is an income statement?
An income statement is a kind of a report which shows if a company has any profit, income or meets a loss during a period. That’s why another name of this statement is a profit-and-loss (P&L) statement (someones call it an earnings statement). It reflects the company’s earrings if there were some sellings of goods or services, financial charges on running the business and remaining profit.
The P&L is not the only one statement to show financial items of the company. There are also statement of retained earnings, balance sheet and cash flow statement.
Income statement may cover different periods. Mostly used is a year-end income statement which gives information about the latest operating year of the company. However, many businesses may also make income statements on a monthly, quarterly or semi-annual basis.
The P&L statements usually cover at least two periods to compare a company’s financial dynamics. For instance, a fictitious company Jone’s cupcakes makes an income statement covering January 1 to December 31, 2022. It also will include the statements for the previous year – January 1 to December 31, 2021 in addition to 2022.
The main parts of an income statement
Here you can find the key items of an income statement:
Revenue (aka sales) – is the money a business earned from selling goods or services during the period. The revenue includes only money received from primary operations of the company.
Cost of goods sold/cost of sales – the first one is connected with manufacturing companies whereas the second one relies on retailers and wholesalers – is the direct costs of obtaining or producing the company’s products and/or selling its services. It ordinarily includes raw materials and hired labor costs.
Gross profit – (is also named as gross margin or contribution margin) is revenue with the exception of cost of goods sold or cost of sales. It is commonly used to count the gross profit margin. This index is like a sign of a business’ performance.
Operating expenses – (or SG&A) are the indirect costs of managing the business. They consist of marketing, advertising, utilities, rent, insurance, employee benefits etc.
Operating income – is the gross profit and operating expenses difference.
Non-operating items – are profits and inputs from non-primary activities like interest, dividends or one-time items.
How to analyze an income statement?
There are different ways of analyzing an income statement:
- Bottom line – First you need to analyze the net income which shows if the company makes a profit and what is the dynamic of the profit from year to year. Calculating and comparing the net profit margin is also allowable.
- Vertical analysis – Calculate as a portion of income every line points beginning from the cost of goods sold or cost of sales. This way you can find the effect of different expenses on your income and identify the direction of improvement.
- Time series analysis – Is based on comparing each index with previous years both in raw dollar terms. Is the right way to understand reasons for your income changes and also find the direction of improvement.
The uses of an income statement
Income statement is an essential financial document for running any business and working with investors and other partners.
1. It is necessary for strategic planning, calculating future expenses. Interim and annual p&l statements can show you if the business is running well through the year and at year-end, make out falling areas and compare your financial situation with budgets and projections.
2. t is also used by lenders, investors and other partners with your financial statements to understand if the business is profitable.
3. Annual tax filings assessment is also based on P&L statements.