All you need to know about the income statement!
The income statement is one of the three significant financial statements for a business to know the revenue and expenditure aspects. It basically describes how healthy a company’s bottom line is and where the management needs to shift their focus. The typical time frame for a company to release an income statement is annually and quarterly. This article will cover in detail what an income statement is? What is a comparative income statement, and how a business uses it to know the financial well-being of the company with examples!
What is an income statement?
Three financial statements – Income Statement, Balance Sheet, and Cash Flow Statement are essential for any business. They act as the encyclopedia of a company’s financial condition. The first and the foremost statement in this list is the income statement. It represents all the income inflows and outflows for a specific period of time. It is also referred to as the profit and loss statement, earnings statement, statement of operations, and statement of financial result.
An income statement is a valuable tool for internal and external stakeholders. The company management, directors, and employees are the internal stakeholders, while shareholders, investors, competitors, and creditors are the external stakeholders.
Because the profit and loss statement helps analyze where the company stands, the internal stakeholders get an idea of where the actions are needed. While for the external stakeholders, the statement yields information on whether their money is secured. As a result, it holds utmost importance.
Now that the base is clear, let us explore an enhanced version of the income statement, known as the comparative income statement.
What is a comparative income statement?
A comparative income statement or comparative profit and loss statement is a typical income statement but showcases multiple accounting periods. This allows companies to analyze the difference in performance compared to a data point of the previous period.
The comparative statement of profit and loss includes all the particulars of an income statement side by side with the previous accounting entries. This makes it easier for companies to find a trend or anomaly and identify the reason for the same. The typical characteristics of a comparative profit and loss statement include representing the actual absolute numbers, changes if any in those numbers, and representing the increase or decrease over a certain period in terms of percentage.
The question is, what do these absolute numbers represent? What is included in an income statement? Let us understand that with an example.
Income statement format
Let’s now break down the comparative income statement line by line.
Income/Sales/Revenue:
This is the top line item in the income statement. It represents income generated through the sales of goods and services. In India, a company gets input credit on Goods and Service Tax (GST) which is deducted from the income to derive the total income. Other income, such as interest income, income from sales of land, rental income, etc., are considered as Other Income. The Total Income is the aggregator of these particulars.
Cost of Goods Sold (COGS)
Cost of Goods Sold includes all the expenses associated with selling goods and services. It is also known as Cost of Sales. Inventory expenses, depreciation, and amortization on tangible and intangible assets, advertising and marketing expenses, etc., are COGS.
Selling, General, and Administrative Expenses
These expenses are also referred to as SG&A expenses. It is the cost that has to be incurred for running a company. Some of the examples are lease payments on rental offices, salary paid, insurance and travel expenditures, etc.
Depreciation and Amortization
Often companies create separate accounts to write down these expenses. They are non-cash in nature and typically are applied for Property, Plant, and Equipment, referred to as PP&E.
Gross Profit
By deducting COGS from Total Sales or expenses, Gross Profit is derived.
EBITDA
EBITDA is Earnings before Interest, Tax, Depreciation, and Amortization. Often companies prefer to deduct SG&A expenses (not depreciation or amortization) from the gross profit to derive this line item.
EBIT or Operating Income
EBIT stands for Earnings before Interest and Tax. This ensures that no non-operating expenses and income are included. In simple words, it is the business income from regular operations.
EBT
Earnings before Tax or EBT is the pre-tax income for a business. It is derived by deducting interest expenses from EBIT or operating income. Interest expenses can be mentioned separately or under income expenses depending on the nature of debt taken.
Tax
Tax is deducted from the EBT to derive the final income of the company. This includes any existing and upcoming tax expenses. Deferred tax is also included here, which is the surplus tax paid or any previous tax liabilities that need to be paid.
Net Income
This is the total income a company generates over a period and is derived by deducting all the cash and non-cash expenses from the total sales or income. It is also the total profit or loss for a business in an accounting year. Net income is known as the bottom line of the company. The same amount is transferred to the balance sheet as retained earnings after deducting dividends.
Earnings per Share (EPS)
EPS is the total earnings (Profit or Loss) that shareholders of the company receive. It is derived by dividing the total earnings by the number of shares outstanding.
Conclusion
The income statement provides details on the profit and loss of a company, though, at a border scale, it is useful for cross-time and cross-business comparisons. For internal purposes, a company can choose to make a P&L statement on a monthly basis, but all the listed companies have to file their income statement every quarter and at the end of the year to the concerned authority (i.e. SEBI in India). An income statement allows companies to do a deep-down analysis of their operations, compare the same with their competitors, and take actions to make the bottom line healthier with time.
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