Income Statement
What is an 'Income Statement'
An income statement is a financial statement that reports a company's financial performance over a specific accounting period. Financial performance is assessed by giving a summary of how the business incurs its revenues and expenses through both operating and non-operating activities. It also shows the net profit or loss incurred over a specific accounting period.
BREAKING DOWN 'Income Statement'
Also known as the profit and loss statement or statement of revenue and expense, the income statement is one of three major financial statements in the annual report and 10-K. All public companies must submit these legal documents to the Securities and Exchange Commission (SEC) and investor public. The other two financial statements are the balance sheet and the statement of cash flows. All three provide investors with information about the state of the company's financial affairs, but the income statement is the only one that provides an overview of company sales and net income.
Income Statement
Unlike the balance sheet, which covers one moment in time, the income statement provides performance information about a time period. It begins with sales and works down to net income and earnings per share (EPS).
The income statement is divided into two parts: operating and non-operating. The operating portion of the income statement discloses information about revenues and expenses that are a direct result of regular business operations. For example, if a business creates sports equipment, it should make money through the sale and/or production of sports equipment. The non-operating section discloses revenue and expense information about activities that are not directly tied to a company's regular operations. Continuing with the same example, if the sports company sells real estate and investment securities, the gain from the sale is listed in the non-operating items section.
A Real World Example
Below is a reproduction of Apple Inc.'s (AAPL) income statement. All amounts are in millions of U.S. dollars.
| Income Statement: | |
| Revenue | 45,260 |
| Cost of Goods Sold | 27,993 |
| Gross Profit | 17,267 |
| Operating Expenses: | |
| SG&A (Selling, General, and Administrative Expenses) | 6,720 |
| Other Operating Expense | - |
| Operating Income | 10,547 |
| Non Operating Income Expense | - |
| Interest Expense | 602 |
| Unusual Expense | - |
| Pretax Income | 11,308 |
| Income Taxes | 2,591 |
| Equity In Earnings Of All Affiliates Income | - |
| Other After Tax Adjustments | - |
| Consolidated Net Income | 8,717 |
| Minority Interest Expense | - |
| Net Income Continuing Operations | 8,717 |
| Preferred Dividends | - |
| Net Income Available to Common Basic Shares | 8,717 |
| Earnings Information: | |
| EPS Diluted Before Unusual Expense | 1.67 |
| EPS Basic Before Extraordinaries | 1.68 |
| EPS Fully Diluted | 1.67 |
Income Statement Uses
Analysts use the income statement for data to calculate financial ratios such as return on equity (ROE), return on assets (ROA), gross profit, operating profit, earnings before interest and taxes (EBIT), and earnings before interest taxes and amortization (EBITDA). The income statement is often presented in a common-sized format, which provides each line item on the income statement as a percent of sales. In this way, analysts can easily see which expenses make up the largest portion of sales. Analysts also use the income statement to compare year-over-year (YOY) and quarter-over-quarter (QOQ) performance. The income statement typically provides two to three years of historical data for comparison.
To learn more about the income statement and how to use them in investment selection, please read Understanding The Income Statement and Find Investment Quality In The Income Statement.
Read more: Income Statement https://www.investopedia.com/terms/i/incomestatement.asp#ixzz5FHEiKQOa
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Understanding the Income Statement
By Richard Loth | Updated October 25, 2017 —
6:00 AM EDT
The income statement is one of three financial statements that stock investors
need to become familiar with (the other two are balance sheet and cash flow statement). Understanding an
income statement is essential for investors in order to analyze the
profitability and future growth of a company, which should play a huge role in
deciding whether or not to invest in it.
In the
context of corporate financial reporting, the income statement summarizes a
company's revenues (sales) and expenses, quarterly and annually for its fiscal year. The final net figure, as well as
various other numbers in the statement, are of major interest to the
investment community.
Read on
to learn how to break down a financial statement. (To learn more,
see What You Need To Know About Financial Statements and Footnotes: Start
Reading The Fine Print.)
General
Terminology and Format Clarifications
Income
statements come with various monikers. The most commonly used are
"statement of income," "statement of earnings,"
"statement of operations" and "statement of operating
results." Many professionals still use the term P&L, which stands for profit and loss
statement, but this term is seldom found in print these days. In addition, the
terms "profits," "earnings" and "income"
all mean the same thing and are used interchangeably.
Two basic
formats for the income statement are used in financial reporting presentations
– the multi-step and the single-step. These are illustrated below in two simple
examples:
|
Multi-Step Format
|
Single-Step Format
|
|
Net Sales
|
|
|
Materials and Production
|
|
|
Marketing and Administrative
|
|
|
Other Income & Expenses
|
|
|
Other Income & Expenses
|
Pretax Income
|
|
Pretax Income*
|
Taxes
|
|
Taxes
|
|
|
Net Income (after tax)*
|
--
|
In the
multi-step income statement, four measures of profitability (*) are revealed at
four critical junctions in a company's operations – gross, operating, pretax
and after tax. In the single-step presentation, the gross and operating income
figures are not stated; nevertheless, they can be calculated from the data
provided. (For related reading, see: An Introduction
to Fundamental Analysis.)
In the
single-step method, sales minus materials and production equal gross income.
And, by subtracting marketing and administrative and R&D expenses from
gross income, we get the operating income figure. If you are a DIY investor,
you'll have to do the math; however, if you use investment research data, the
experts crunch the numbers for you.
One last
general observation. Investors must remind themselves that the income
statement recognizes revenues when they are
realized – so when goods are shipped, services rendered and expenses incurred.
With accrual accounting, the flow of accounting events through the income
statement doesn't necessarily coincide with the actual receipt and disbursement of cash. The income
statement measures profitability, not cash flow. (To find out more about cash flow,
see What Is a Cash Flow Statement? and The Essentials of Cash Flow.)
Income
Statement Accounts (Multi-Step Format)
- Net
Sales (a.k.a.
sales or revenue): These terms refer to the value of a company's sales of
goods and services to its customers. Even though a company's bottom line (its net income) gets
most of the attention from investors, the top line is where the revenue or
income process begins. Also, in the long run, profit margins on a company's
existing products tend to eventually reach a maximum that is difficult on
which to improve. Thus, companies typically can grow no faster than their
revenues.
- Cost
of Sales (a.k.a.
cost of goods/products sold (COGS), and cost of services): For a manufacturer,
cost of sales is the expense incurred for labor, raw materials, and manufacturing overhead
used in the production of goods. While it may be stated separately, depreciation expense belongs in the
cost of sales. For wholesalers and retailers, the cost of sales is
essentially the purchase cost of merchandise used for resale. For
service-related businesses, cost of sales represents the cost of services
rendered or cost of revenues. (To learn more about sales, read Measuring
Company Efficiency, Inventory
Valuation For Investors: FIFO And LIFO and Great
Expectations: Forecasting Sales Growth.)
- Gross
Profit (a.k.a.
gross income or gross margin): A company's gross profit does more than simply
represent the difference between net sales and the cost of sales. Gross
profit provides the resources to cover all of the company's other
expenses. Obviously, the greater and more stable a company's gross margin, the greater potential there is
for positive bottom line (net income) results.
- Selling,
General and Administrative Expenses: Often referred to as SG&A,
this account comprises a company's operational expenses. Financial analysts generally assume
that management exercises a great deal of control over this expense
category. The trend of SG&A expenses, as a percentage of sales, is
watched closely to detect signs, both positive and negative, of managerial
efficiency.
- Operating
Income:
Deducting SG&A from a company's gross profit produces operating
income. This figure represents a company's earnings from its normal
operations before any so-called non-operating income and/or costs
such as interest expense, taxes and special items. Income at the operating
level, which is viewed as more reliable, is often used by financial
analysts rather than net income as a measure of profitability.
- Interest
Expense:
This item reflects the costs of a company's borrowings. Sometimes
companies record a net figure here for interest expense and interest income
from invested funds.
- Pretax
Income:
Another carefully watched indicator of profitability, earnings garnered
before the income tax expense is an important
bullet in the income statement. Numerous and diverse techniques are
available to companies to avoid and/or minimize taxes that affect their
reported income. Because these actions are not part of a company's
business operations, analysts may choose to use pretax income as a more
accurate measure of corporate profitability.
- Income
Taxes:
As stated, the income tax amount has not actually been paid – it is an
estimate, or an account that has been created to cover what a company
expects to pay.
- Special
Items or Extraordinary Expenses: A variety of events can occasion
charges against income. They are commonly identified as restructuring charges, unusual or
nonrecurring items and discontinued operations. These write-offs are supposed to be
one-time events. Investors need to take these special items into account
when making inter-annual profit comparisons because they can distort
evaluations.
- Net
Income (a.k.a. net profit or net earnings): This is
the bottom line, which is the most commonly used indicator of a company's
profitability. Of course, if expenses exceed income, this account caption
will read as a net loss. After the payment of preferred dividends, if any, net
income becomes part of a company's equity position as retained earnings. Supplemental data is
also presented for net income on the basis of shares outstanding (basic) and the
potential conversion of stock options, warrants etc. (diluted). (To read
more, see Evaluating
Retained Earnings: What Gets Kept Counts and Everything
You Need To Know About Earnings.)
- Comprehensive
Income:
The concept of comprehensive income, which is relatively
new (1998), takes into consideration the effect of such items as
foreign currency translations adjustments,
minimum pension liability adjustments and unrealized gains/losses on certain
investments in debt and equity. The investment community continues to
focus on the net income figure. The aforementioned adjustment items all
relate to volatile market and/or economic events that are out of the
control of a company's management. Their impact is real when they occur,
but they tend to even out over an extended period of time.
Sample
Income Statement
Now let's take a look at a
sample income statement for company XYZ for FY ending 2016 and 2017 (expenses
are in parentheses):
|
2016
|
2017
|
|
|
Net Sales
|
1,500,000
|
2,000,000
|
|
Cost of Sales
|
(350,000)
|
(375,000)
|
|
Gross Income
|
1,150,000
|
1,625,000
|
|
Operating Expenses (SG&A)
|
(235,000)
|
(260,000)
|
|
Operating Income
|
915,000
|
1,365,000
|
|
Other Income (Expense)
|
40,000
|
60,000
|
|
Extraordinary Gain (Loss)
|
-
|
(15,000)
|
|
Interest Expense
|
(50,000)
|
(50,000)
|
|
Net Profit Before Taxes (Pretax
Income)
|
905,000
|
1,360,000
|
|
Taxes
|
(300,000)
|
(475,000)
|
|
Net Income
|
605,000
|
885,000
|
Now that
we understand the anatomy of an income statement, we can deduce from the above
example that between the years 2016 and 2017, Company XYZ managed to
increase sales by about 33%, while reducing its cost of sales from 23% to 19%
of sales. Consequently, gross income in 2017 increased significantly,
which is a huge plus for the company's profitability. Also, general operating expenses have been kept under
strict control, increasing by a modest $25,000. In 2016, the company's
operating expenses represented 15.7% of sales, while in 2017 they amounted
to only 13%. This is highly favorable in view of the large sales increase.
As a
result, the bottom line – net income – for the company in 2017 increased from
$605,000 in 2016 to $885,000 in 2017. The positive inter-annual trends in all
the income statement components, both income and expense, have lifted the
company's profit margins (net income/net sales)
from 40% to 44% – again, that's highly favorable.
The
Bottom Line
When an investor understands the income and expense components of
the income statement, he or she can appreciate what makes a company profitable.
In the case of Company XYZ, it experienced a major increase in sales for the
period reviewed and was also able to control the expense side of its business.
That's a sign of very efficient management, and more likely than not, gives a
really good clue as to how solid of an investment the company may be. (For
more insight, see Find Investment
Quality In The Income Statement and Advanced
Financial Statement Analysis.)
Read more: Understanding The Income Statement https://www.investopedia.com/articles/04/022504.asp#ixzz5IZD6jIBY
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