In the world of corporate finance and accounting, understanding the different types of financial statements is crucial for evaluating a company’s performance. Accounts found on an income statement include revenue, cost of goods sold (COGS), gross profit, operating expenses, and net income.
Two important financial documents in this regard are the income account statement and the income statement. This guide aims to explain these statements, highlighting their components, uses, and the differences between them.
Related: What is Pro-Forma Financial Statements
What Are Income Account Statements?
Income account statements, also known as revenue or earnings statements, are financial documents that detail a company’s income sources and total expenses over a specific period. They serve as a snapshot of a company’s financial health, indicating how well it is managing its resources to generate profits. These statements are integral to corporate accounting and are required by regulatory bodies such as the Securities and Exchange Commission (SEC).
Components of an Income Account Statement
- Operating Revenue: This is the income generated from a company’s primary business activities. For example, a manufacturing company earns operating revenue from selling its manufactured goods.
- Non-Operating Revenue: Income earned from non-core business activities, such as interest from investments or royalty payments, falls under this category.
- Gains: This refers to income from one-time transactions, such as selling company property or parts of the business.
- Primary Expenses: Also known as operating expenses, these are costs directly associated with the primary activities of the business, including administrative expenses, cost of goods sold (COGS), and employee wages.
- Secondary Expenses: These expenses are related to non-operating activities, such as marketing campaigns or legal fees.
Calculating Income Account Statements
The process of calculating an income account statement involves several steps:
- Gross Profit: Start with the sales revenue and subtract the COGS. The formula is:
Gross Profit=Revenue−COGS\text{Gross Profit} = \text{Revenue} – \text{COGS}Gross Profit=Revenue−COGS
- EBITDA: Subtract the secondary expenses from the gross profit to find the earnings before interest, taxes, depreciation, and amortization.
- EBIT: Deduct depreciation and amortization from EBITDA to find the earnings before interest and taxes.
- Net Income: Subtract interest and taxes from EBIT to find the net income. Alternatively, use the formula:
Net Income=(Revenue+Non-Operating Items)−(COGS+Operating Expenses)\text{Net Income} = (\text{Revenue} + \text{Non-Operating Items}) – (\text{COGS} + \text{Operating Expenses})Net Income=(Revenue+Non-Operating Items)−(COGS+Operating Expenses)
Uses of Income Account Statements
Income account statements are not just for regulatory compliance. They are crucial for several business functions:
- Comparing Companies: These statements allow for comparison between companies in different industries, helping to evaluate operational efficiency.
- Applying for Loans: Financial institutions use these statements to assess a company’s profitability before approving loans.
- Demonstrating Value to Shareholders: Publicly traded companies use income account statements to showcase their financial health to shareholders and investors.
Roles Involving Income Account Statements
Professionals in bookkeeping, accounting, and financial management frequently work with income account statements. Additionally, freelancers and contractors may use these documents to track earnings and tax obligations. Understanding how to read and prepare these statements is vital for anyone pursuing a career in finance or accounting.
Income Account Statements vs. Gross Income Statements
While both income account statements and gross income statements provide insights into a company’s financial performance, they serve different purposes. An income account statement calculates the company’s total income after subtracting all expenses, offering a comprehensive view of profitability. In contrast, a gross income statement focuses only on the revenue minus the COGS, providing a narrower view of financial health.
What Is an Income Statement?
An income statement, also known as a profit and loss statement, is one of the core financial statements used to assess a company’s profitability over a specific period. It is used in both corporate finance and accounting and is essential for financial modeling. The income statement shows all revenues and expenses, resulting in the net profit or loss.
Components of an Income Statement
- Revenue/Sales: This represents the total income from sales or services, appearing at the top of the statement.
- Cost of Goods Sold (COGS): Direct costs associated with producing goods or services, such as labor, materials, and depreciation.
- Gross Profit: Calculated by subtracting COGS from sales revenue.
- Marketing, Advertising, and Promotion Expenses: Costs related to selling goods and services.
- General and Administrative (G&A) Expenses: Indirect costs such as salaries, rent, office expenses, insurance, and travel.
- EBITDA: Earnings before interest, tax, depreciation, and amortization.
- Depreciation & Amortization Expense: Non-cash expenses spread over the useful life of capital assets.
- Operating Income (EBIT): Profit from regular business operations before non-operating income, expenses, interest, or taxes.
- Interest: Interest expense and income are often separated to reconcile EBIT and EBT.
- Other Expenses: Industry-specific costs such as R&D, stock-based compensation, and impairment charges.
- EBT (Pre-Tax Income): Earnings before tax, calculated by subtracting interest expense from operating income.
- Income Taxes: Taxes charged on pre-tax income.
- Net Income: Final profit after deducting income taxes, which flows into retained earnings on the balance sheet.
Real Example of an Income Statement: Amazon
To illustrate, consider Amazon’s consolidated statement of operations for the years ended December 31, 2015-2017. Amazon’s income statement includes:
- Revenue Streams: Products and services.
- Expenses: Grouped into categories like fulfillment, marketing, technology, content, and G&A.
- Operating Income: Calculated after deducting all expenses.
- Net Income: Final profit after accounting for non-operating expenses and taxes.
Building an Income Statement in a Financial Model
Creating an income statement involves several steps:
- Input Historical Data: Start with historical data for available periods.
- Analyze Trends: Use historical trends to create drivers and assumptions for future forecasting.
- Forecast Future Values: Use drivers and assumptions to forecast future line items, calculating subtotals like gross profit by subtracting COGS from revenue.
Common Drivers for Income Statement Items
- Sales Revenue: Growth percentage or pegged growth based on indices.
- COGS: Percentage of sales or fixed dollar value.
- SG&A: Percentage of sales or trend analysis.
- Depreciation and Amortization: Based on a depreciation schedule.
- Interest Expense: Derived from the debt schedule.
- Income Tax: Percentage of pre-tax income.
Conclusion
Both income account statements and income statements are vital tools for assessing a company’s financial performance. While they serve different purposes and include various components, they collectively provide a comprehensive view of a company’s profitability and efficiency. Understanding these financial documents is essential for professionals in finance and accounting, helping them make informed decisions, compare companies, and fulfill regulatory requirements.
