Income Statement - Explained
What is an Income Statement?
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Table of ContentsWhat is an Income Statement?How is an Income Statement Used?Uses of Income StatementsAcademic Research on Income Statements
What is an Income Statement?
An income statement is a financial statement that states the losses incurred and profits accrued by a company over a period of time. It is a financial statement that also reflect the revenues and expenses of a company over a particular time. An income statement is also called a profit and loss account or revenue and expense statement. The flow of revenue into a company and how the revenue is managed to generate net income or profit are depicted on the income statement. Here are the vital points you should know about an income statement;
- There are three financial statements that are essential for reporting a company's finances for a period of time.
- An income statement alongside cash flow and balance sheet are important for measuring the financial performance of a company over a period of time.
- The net income of a company is realized through (Total Revenue + Gains) (Total Expenses + Losses)
- Both operating and non-operating revenues generated by a company make nu its total revenue.
- Expenses can be incurred from a company's primary activities and secondary activities.
Back to: ACCOUNTING, TAX, & REPORTING
How is an Income Statement Used?
Every company acknowledged by the Securities and Exchange Commission (SEC) must compile their income statement and submit to the SEC. one of the major ways to gauge the financial performance of a company, its solvency and profitability is through the income statement. Aside from the income statement of a company, the balance sheet and cash flow are two other important financial statements needed when reporting and gauging a company's financial performance. The income statement covers a particular duration, this can be a quarter or a year. When compiling an income statement, the revenue, gains, expenses and losses of the company must not be missing from the statement. Revenues and Gains:
- Operating Revenue: The primary operations or activities of a business generate its operating revenue. Depending on the nature of the business, the source of operating revenue vary from company to company. For example, a company that manufactures goods generate operating revenues from its primary activities while a company that renders engineering services generating its operating revenue from services rendered.
Non-operating Revenue: This is revenue realized from secondary business activities, often different from the primary business of a company. Income generated from property, interest earned on money saved in bank are common examples of non-operating revenue.
Gains: Other incomes that a company generates are called gains. When a company's assets, equipment or facility is sold, gains will be realized.
It is important to note that receipts are quite different from revenue. The money that a business receives or cash payments made by a business make up the receipts of the business. Revenue on the other hand, is the income made by a business majorly through primary activities. When cash is received or paid by a business, a receipt is generated while revenue is made when the company sells its manufactured goods or delivers its specialized services. Expenses and Losses: It is also important to distinguish between expenses and losses. There are two major types of expenses, these are expenses from primary activities and expenses from secondary activities.
- Expenses resulting from primary activities: These are the expenses that a company accrues during its primary business operations, like manufacturing of goods, wages paid for labor, sales expenses, maintenance expenses, utility fees and others.
- Expenses from secondary activities: These are expenses generated from activities that are not core to the business operations.
Losses: These are expenses made on unusual projects that do not generate profit for the company.
When accounting for the financial performance of a company, primary expenses and primary revenue are vital. There are expenses incurred and revenue generated from activities that are core to the business. Secondary revenue and secondary expenses, on the other hand are generated from non-primary activities of the company. Below is the formula for calculating a company's net income; Net Income = (Revenue + Gains) (Expenses + Losses) From the above formula, one can see that it is impossible to get the net income of a company without the above key elements which are; revenue, gains, expenses and losses. You calculate all the amount of money that a company generates as revenue and gains and the amount incurred as expenses and losses to get the net income. In recent times, many companies use the multiple-step income statement to file their income statement for a period of time. The reason for this new dimension is simple, many companies are diversified in terms of operations, the kinds of goods and services they offer. That is, a company might have many branches of operations which might have been because of mergers or acquisitions or partnership with other businesses. Using the multiple-step income statement, operating expenses, operating revenues and gains are separated from non-operating revenues, non-operating expenses, and losses when filing the income statement.
Uses of Income Statements
The SEC requires that every company file their income statement, this is one of the basic elements for financial reporting. The income statement has many uses, one of its many uses is to reflect the financial performance of a business to stakeholders. The details provided in the income statement help to determine the financial performance of a business as well as its profitability. To check the progress of a company over a period of time, you need to lay hands on its income statement alongside other financial statements. The income statement of a business is aos important to help the management make crucial decisions about the company. It will be difficult to monitor the growth and performance of a business without its income statement. An income statement is important, aside that stakeholders gain insights on the growth of a business through the income statement, management keep an eye on the business and make prompt business decisions with the help of the income statement. Investors and other stakeholders place value on the income statement, it shows the prospect of a business, how efficient the management is and most of all, how profitable the business is. Furthermore, an income statement helps to check the progress of a business in comparison to its peers in the industry.
Academic Research on Income Statements