The Income Statement The income statement (also called the profit & loss statement) shows how much money a business makes or loses over a specific time period - a month, 3 months, 6 months or a year. Income statements are often prepared 4 times a year but never cover a period longer than a year. When income statements are prepared, management or its accountants extract sales and other income totals along with totals of various expenses from internal accounting records. Once expenses are computed, they are subtracted from income and either a profit or loss is shown. The results on the income statement affect the balance sheet from period to period, so it is important to review both statements to determine the full impact each has on the other. Income Statement - Net Sales The net sales figure is derived by adding up the total invoices billed to customers during the period covered, less any discounts taken by customers. Then, any sales returns accepted from customers during the period are deducted. Deductions can be important in some industries. (For example, in retailing they can run over 10 percent.) After deductions are made, the remaining figure in net sales which is important for comparative analysis and percentage calculation. Income Statement - Gross Profit Gross profit is found by subtracting the cost of goods sold from net sales. Cost of goods sold is comprised of those expenses it took to manufacture, purchase merchandise and service customers. The cost of goods sold takes into account material costs along with labor and factory expenses involved in producing the merchandise sold. Gross profit measures the profitability of a company's total production. A successful company's gross profit will cover its costs of doing business with enough left over to produce a net profit. Income Statement - Net Profit After Tax Before coming up with the net profit after tax (often called net income after tax), you should be aware that all expenses directly applicable to the company's operations, including income taxes, have been deducted from gross profit. Net profit after tax truly measures the operating success of the company. When total expenses exceeds net sales, a minus figure results and a loss has occurred. If there is a surplus, it is considered net profit and can be added to retained earnings or distributed to owners and stockholders as withdrawals or dividends. When expenses exceed net sales (when a loss occurs), it is charged against net worth and a reduction in the owners' equity occurs and is shown on the balance sheet. Income Statement - Dividends/Withdrawals This item can be very important, depending on the type of business you are reviewing - corporation, partnership or proprietorship. In the case of a partnership or proprietorship, this figure would represent withdrawals by the owners of the business. When withdrawals or dividends exceed profits they diminish net worth. This situation may have an adverse effect on the financial stability of the business. Working Capital Working capital represents the funds available to finance current business operations. Many companies show this computation prominently in their statement, but in some instances you may want to compute it on your own. This figure is important, as it is used to determine how much excess cash a business has to fund current expenses. Working capital is the difference between current assets and current liabilities. Since a company's sources to pay its current debt come partly from current assets, a business with a comfortable margin should be able to pay its bills and operate successfully. How much working captial is enough depends on the proportion of current assets to current liabilities rather than on the dollar amount of working capital. We'll take up this ratio shortly; however keep in mind that it is good to have two dollars or more of current assets to one dollar of current liabilities than to have less, for most businesses. |
||||||||||||||||||||||||
Continue to Page 4 |
Income Statement |