Simply a statement showing income, expenses, and profit or loss of firm is called income statement. In technical terms it is a financial statement presenting income earned during a period and expenses incurred to generate that income along with profit or excess of income over expenses called surplus. Income statement is also referred to as profit and loss account or a statement of financial performance. An income statement demonstrates how income is transformed into net income through accounting for the expenses for the same period and indicates operating performance of the company during that period. Along with expenses income statement also provides for some portion of the income as doubtful expenses or expenses than can not be determined exactly but have to pay in future. Non cash expenses such as depreciation and amortization also form part of the expense pool. Unlike balance sheet it contains a time period usually six months or twelve months related to which time horizon revenues and expenses are accounted for.
Income statement is required to be prepared and disclosed under the international financial reporting standards by listed companies and large organizations. It is labeled as income and expenditure account or receipt and payment account in not for profit organizations. Through this statement such organizations need to show the receipts of donations, subscriptions, and other income during a period along with representing the related administrative or operating expenses resulting in surplus or deficit.
[linkunit]Income statements can be too short or detailed. Short income statement just show revenues, cost of goods sold, Gross Profit, Operating expense, Financing Cost, and Profitability (Loss). However detailed income statements usually divide the incomes and expenditures into single items and their associated amounts. Operating expenses are enlisted accordingly and profits before and after taxes are determined. Profits after taxes are actually the net income for the period and are available to distribute among shareholders or to retain in the business.
The contents of income statement can be divided into following categories:
The revenues or expenses related to normal or major business operations of the firm are called operating revenues or expenses. Incomes related to operating activities are inflows resulting from sale of goods, rendering services, or such activities constituting the main operations of the firm. Similarly operating expenses consists of costs or outflows incurred to generate revenues from the major operations of the firm. Such costs are further divided into costs incurred up to making the goods saleable referred to as cost of goods sold and costs incurred to sale the goods and assist in producing and selling.
Cost of goods sold is the cost incurred directly in producing the goods such as raw material, direct labor, and overheads. Other operating costs include administrative, selling, and marketing expenses. Such costs actually assist in production and sale of goods and services and are also referred to as supporting costs. An important ingredient of the other operating costs and overheads is depreciation on fixed assets. Depreciation means the portion of the total cost of asset used in revenue creation of the current period. This is basically an approximation and called non cash expense.
Non Operating Segment
There may be incomes earned by a firm from the sources other than of normal business operations. Such revenues are called non operating revenues because they are unusual in nature. Examples of such revenues are interest income on deposits, rental income from some property, and gains on sale of assets or securities.
Similarly there may be some expenses other than of normal operating expenditures such as losses on sale of assets and securities. Such expenses also form part of income statement are referred to non operating expenses.
Companies usually get debts from financial institutions to finance the ventures. Such loans require part of income to be paid as interest for the period which is called finance cost. This financing cost is presented in the income statement as deduction from income and part of overall expenditures.
After dealing with operating, non-operating, and financing items some percentage of profit is to be paid as tax under the prevailing income tax regulations. Income tax expense for the period is shown as deduction from the profit before tax in the income statement.
Example of income statement:
For the period ended June 30, 20XX
Sale of goods
Less: Cost of Goods Sold
Less: Other Operating Expenses:
Salaries & Wages
Repair & Maintenance
Total operating expenses
Earning before interest and taxes
Less: Financing Costs
Earning before tax
Earning after tax
Benefits of Income Statement
Following are the main benefits associated with the income statement which the stakeholders can avail.
• Through income statement shareholders can know the profitability they earned on the capital invested. Income statements enable the shareholders to judge the efficiency of the management for converting their capital into profitability. They can make the managers accountable.
• Lenders and creditors can judge the past performance of the company and make decisions regarding extension of credits and debts.
• Management can critically evaluate the performance and take corrective measures. Income statement helps management in determining the dividends to be distributed and investments from internal sources.
• Employees can compare the remunerations with profitability and can talk to the management for their benefits.
• Government agencies such as tax regulators can be able to determine the tax and other liabilities of the companies.
Limitations of Income Statement
Though quite comprehensive but income statement also depends upon some approximations or judgments such as depreciation etc and further it also may vary according to the accounting policies adopted by the company. Accounting policies may be regarding inventory valuation methods and depreciation methods etc.