Income Statement

If the balance sheet is a snapshot, the income statement is a movie. The income statement shows how profitable the organization has been over a specific period of time, typically one year. It summarizes all revenues (or sales), the total amounts of money that have been or are to be received from customers for goods and services, and all expenses, the costs that have arisen in generating revenues.

Expenses and income taxes are then subtracted from revenues to show the actual profit or loss of a company, a figure known as net income - profit or the bottom line. The bottom line is the final figure on the income statement to show the overall profit or loss of the company after taxes.

Gross sales are the total dollar amount of goods sold. When returns and discounts are deducted from gross sales, the result is termed net sales.

Expenses, the costs of doing business, include both the direct costs associated with creating or purchasing products for sale and the indirect costs associated with operating expenses. Whether a company manufactures or purchases its inventory, the cost of storing the product for sale (such as heating the warehouse, paying the rent, and buying insurance on the storage facility) is added to the difference between the cost of the beginning inventory and the cost of the ending inventory in order to compute the actual cost of items that were sold during a period – or the cost of goods sold.

Cost of goods sold is deducted from sales to obtain a company’s gross profi t – a key figure used in financial statement analysis. In addition to the costs directly associated with producing goods, companies deduct operating expenses, which include both selling expenses and general expenses. Selling expenses are the costs of marketing and distributing the product (such as wages or salaries of salespeople, advertising, insurance for the sales operation, depreciation for the store and sales equipment, and sales-department expenses such as telephone charges). General expenses arise from the overall operation of a business and include professional services (accounting and legal fees), office salaries, depreciation of office equipment, insurance for office operations, and so on. When total operating expenses are then deducted, the result is called operating income.

Finally, operating expenses and income taxes are deducted from gross profit to compute the company’s net income or loss for the period. By briefly reviewing a company’s income statements you should have a general sense of the company’s size, trend in sales, major expenses, and the resulting net income or loss. In the end, the amount of business done by the company during the year should be greater than its costs and overheads: there should generally be a profit – an excess of income over expenditure.