It has become almost cliché in business dealings, and is typically included in almost every movie involving business transactions. At some point during conversation, one business executive will ask, “So what’s the bottom line?” Inherently, everyone knows what the CEO is asking – is the company making a profit?
When someone refers to the company’s ‘bottom line’ they are referring to the company’s profit on an income statement. Generally defined, net income is the revenue of a company minus all of a company’s expenses.
Taking a more in-depth look can give more insight into how a company determines its net income. For a given year, the company determines total revenue: the amount of money that the company earned. Then, the expenses of the company are deducted. Expenses include costs of goods, taxes, interests, fixed costs, etc. The resulting number is the net income. If the net income is positive, investors are happy. A negative net income starts to make people nervous.
The important thing to remember about net income is that net income is not cash. It may include cash that the company has, but it is not an exact indicator of the cash of the company. The net income is simply a calculation that gives insight into the overall finances of a company.
Because net income is a calculation, it can be manipulated – both for good or bad. Net income is affected by accounting practices such as depreciation, when expenses are charged and when revenue is recognized. These practices change the net income of a company. It does not always indicate a problem with the company’s finances, but it needs to be understood that net income is not always a guaranteed straightforward number.
Understanding net income is imperative to being able to clearly value a company’s net worth, and can help be an indicator of the health of the company.