Another one of the three main accounting documents (together with balance sheet, cash flow statement) in a business is the income statement. Often referred to as a profit and loss statement or an earnings statement, this pivotal document shows the revenues and expenses of a business over a period of time.
Different than a balance sheet which represents a specific moment, the income statement covers a given length of time. Income statements may be produced monthly, quarterly or annually depending on the needs and wants of the company.
Income statements are typically one sheet documents which start with the revenues of the company. It shows the progress of the revenue as costs and expenses are charged against it, and ultimately are transformed into the net profit.
Income statement can be presented in two ways: single-step and multi-step.
- Single-step income statement shows the positions of consolidated revenues and consolidated expenses, resulting in the calculation of Net Income as follows:
_ Revenues – Expenses + Other Income – Other Expense + Gains – Losses
_ = Net Income
- Multi-step income statement provides additional metrics like gross profit and operating profit by calculating Net Income:
_ – Cost of goods sold
_ = Gross profit
_ – Selling, general, and administrative expense
_ – Depreciation expense
_ = Operating profit
_ – Interest expense
_ = Income before tax
_ – Provision for income taxes
_ = Income from continuing operations
_ – Earnings (losses) from discontinued operations, net of tax
_ = Net Income
This simple but powerful report shows the user whether the company lost money or made money during the reporting period. It can be used as a report for investors or as an internal report for managers and owners who are interested in the bottom line of the company.
Income statements are useful for giving an overall look at the financial success of a company, but are limited to specific areas. They cannot include intangible benefits of the company, and can be dependent on accounting methods and judgments. For these reasons, an income statement should not be used as the sole indicator of a company’s worth, but can be part of the overall picture.
The use of a certified public accountant is recommended for companies who want accurate reports that meet generally accepted standards in income reporting. While many software programs have the capability of generating the reports, it can be detrimental to rely on untrained staffers to correctly input information and classify line items appropriately.
As in any type of reporting, the information is only as good as the data that is used. To get a detailed look at a company’s financial health, you must use all of the available information. An income statement is just one more component of that overall look and can be a valuable resource for company officials.
The bottom line message is that income statements are a summary of income and expenses that clearly show either a profit or a loss for a given time period.
For more information please read Basic accounting principles.