Every business requires an income statement, regardless of its size. It is okay if you’ve not familiarised yourself with what an it means and how it works. Not to worry, this article provides a comprehensive guide to the income statement and why it is essential for your business.
Income Statement Meaning
It is a written document highlighting a company’s revenue and expenses over a given period. The statement makes it easy to highlight a business. Some refer to it as a profit and loss statement (P&L), especially when its use is solely within the company.
Uses of an Income Statement
The general train of thought is that P&L statements show a business’ profitability to stakeholders and investors. However, there are other uses, and we shall examine them.
With the statement, businesses can gain insights into how well/poorly they have performed over a particular period. If the expense is more than the revenue, that indicates the business’s financial loss.
There are instances when a loss is predicted. Therefore, analysts scrutinise the P&L statement to determine if the result is as expected, above or below expectations.
Depending on the result, principal officers of a business organisation can make informed decisions based on the statement. For example, they can deduce that the cost accrued on salaries is a lot more than the current revenue can cover, and to mitigate costs, they need to lay off some workers.
The statement can be integral to exerting influence on a prospective or current investor’s decisions. With the provided information, a prospective investor can decide whether or not the business is worth investing in. Current investors reading a P&L statement highlighting big profits made in a recent fiscal year can choose to invest more or pull out if the business is not yielding any profits.
Businesses need to predict and plan for the future, and an income statement can ease the process. This statement allows companies to analyse past sales, look for loopholes, proffer solutions, and predict future numbers.
Elements of an Income Statement
An income statement has different components depending on the personnel or P&L sheet format. However, we shall be reviewing the most common parts.
The revenue section details the entire money the business has generated from the sales of goods or services.
The amount a business spends on operating costs goes under the expenses part.
To get the figure, one must subtract the expenses from the revenue. The difference is what shall be recorded under gross profit.
At times, businesses record losses. The cost of goods and services must be subtracted from the value derived from all sales. If there is a deficit, it is registered as a loss.
Income Before Taxes
Every business venture is required to pay taxes. The income here is referred to the money generated before any tax has been paid.
Calculating the value involves subtracting income after taxes from income before taxes.
Types of Income Statement
There are two types of the P&L statement:
- Single-step income statement
- Multi-step income statement
Single-step Income Statement
Also called a basic income statement, the single-step income statement is the simplistic P&L statement style. Essentially, it shows a business’ expenses and revenue without any subsets. It is simple, and all you have to calculate is the net profit which you can derive by subtracting total costs from the revenue.
The Single-step income statement is more suitable for SMEs and sole proprietorships.
Multi-step Income Statement
It is the appropriate P&L statement form for big organisations and public trading businesses. The goal is to calculate the net income using three steps.
First, you need to calculate the gross profit. To do that, you need to subtract the cost of goods sold and services provided from the business’ net sales. You need to subtract returns, allowances, and discounts from gross sales to get your net sales.
Second, it is essential to calculate the operating income. You can derive that by subtracting operating expenses from gross profit.
Finally, you can get the net income by adding operating income and non-operating items.
Difference Between an Income Statement and Balance Sheet
Often, people tend to mistake P&L statements for a balance sheet. While we get the resemblance, we must unequivocally state that they differ. A balance sheet is a financial statement that displays the assets of a business, its liabilities, and its shareholders’ equities. On the other hand, an income statement sheds light on the profitability of a business.
Nonetheless, both can be used for business analysis.
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Your business needs to move the Lenco way today and take complete control of your business.