What are income statements?

Explore the income statement: the financial storyteller charting your business’s victories and ventures. Turn the page to profits or plot a new path through the suspense of losses and gains. Here’s everything you need to know about income statements.

Imagine the income statement as the financial scorecard of the business world—a snapshot that captures the ups and downs of a company’s monetary adventure during a specific quest, say, a fiscal quarter or year. Think of it as a detailed record of wins (income) and obstacles (expenses), coming together to unveil the ultimate outcome: the gain or the burden of loss.

This document, often called a profit and loss (P&L) statement, delivers the inside scoop on whether the business is winning the gold or needs a new game plan, presenting a tale of financial prowess as thrilling as any quest for treasure.

Are you planning to make an income statement? Use our free profit and loss statement template.

Understanding the role of an income statement

The income statement is like a scorecard for a business’s money matters. It tells you if the business made a profit, also known as a ‘gain’, or if it lost money over a certain time, like a year or three months. This report is really useful because it shows where a business’s money comes from and where it goes – breaking down sales and all the costs that come with running the place. In the end, it shows whether the business ended up with more money than it started with, which is what everyone hopes for.

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What does an income statement include?

Making an income statement is like putting together different pieces of financial information to create a clear and easy-to-understand picture of the overall financial situation. The anatomy of an income statement typically includes:

1. Revenue

This is the starting line for the race, the income earned from selling goods or providing services, before expenses are accounted for.

2. Expenses

The cost of conducting business; this broad category includes everything from raw materials and wages to rent and utilities.

3. Profits

This is the result of subtracting expenses from revenues. Profits represent the financial gain of the business and serve as a key indicator of the company’s capacity to generate wealth.

4. Losses

Sometimes, businesses face devaluation of assets or other unfortunate financial downturns that are captured in this segment.

Creating an insightful income statement involves an understanding of each component. The process typically encompasses:

A. Compiling Revenues

Enumerating and summing all sources of income, including sales and services, to form the gross income.

B. Calculating Gross Profit

By subtracting the cost of goods sold from the total sales revenue.

C. Accounting for Expenses

Methodically documenting every cost and deduction to reflect the truthful operational expenses of the business.

D. Deriving Net Income

The finale, representing the company’s earnings after all deductions, including taxes, have been made.

How to create an income statement

With all the data in hand, it’s time to craft your income statement, threading each piece of information into a comprehensive fiscal tale:

1. Calculate Gross Profit

Deduct the COGS from your total revenue to unveil your gross profit – a pivotal plot twist showing the fundamental effectiveness of your core business operations before external financial factors weigh in.

2. Detail Operational Outlays

Catalogue every operating expenditure, categorising where appliable. This section enriches your account, offering a lucid portrayal of financial allocations and economisations. 

3. Determining Earnings Before Interest and Taxes (EBIT)

Here, you tally up the earnings pre-deductions – a climactic juncture revealing your company’s earning acumen disconnected from tax and financing influences.

4. Subtract Interest and Taxation

Now we reach the denouement where your tale’s heroes (profits) confront the ultimate adversaries – the inescapable obligations to the tax authorities and creditors.

5. Conclude with Net Profit or Deficit

It’s the end of your financial story. The final ledger reveals whether your business is successful with profits, or if you need to reassess and come up with new plans due to losses.

In essence, bringing together an income statement is akin to authoring a detailed narrative where digits and decimal points play the leading roles. Each value contributes to the saga – the unfolding story of your business’s fiscal well-being and operational wisdom. By deciphering each component and understanding its narrative importance, you can produce a clear, precise, and insightful statement that not only recounts past performance but steers your enterprise toward future prosperity.

Example of an income statement

Let’s look at an example of an income statement for a fictitious company, Hometown Bakery Ltd.

For the Year Ended December 31, 2023:

Revenue

– Sales Revenue: £150,000

– Catering Income: £50,000

Total Revenue £200,000

Cost of Goods Sold (COGS)

– Ingredients: £60,000

– Baking Supplies: £10,000

Total COGS £70,000

Gross Profit £200,000 – £70,000 = £130,000

Operating Expenses

– Rent: £20,000

– Salaries and Wages: £40,000

– Utilities: £5,000

– Marketing: £3,000

– Insurance: £2,000

– Depreciation: £4,000

Total Operating Expenses £74,000

Operating Income £130,000 – £74,000 = £56,000

Other Income/Expenses

– Interest Income: £500

– Interest Expense: £1,000

Net Other Income £500 – £1,000 = -£500

Pre-Tax Income £56,000 – £500 = £55,500

Income Taxes

– Income Tax (20%): £11,100

Net Income £55,500 – £11,100 = £44,400

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The income statement above shows Hometown Bakery Ltd.’s revenue, the cost of goods sold, gross profit, operating expenses, and other incomes and expenses, resulting in a pre-tax income and a final net income after taxes.

In summary, income statements play a crucial role in business financial management. They guide decision-making, drive growth strategies, and provide transparency to investors and stakeholders.

Conta understands the importance of financial documentation and aims to empower businesses in Australia. As a provider of free invoicing solutions, we are dedicated to helping businesses thrive by offering comprehensive and user-friendly financial tools.