What is an Income Statement - Revenue and Expenses Explained

THE INCOME STATEMENT

The Income Statement is a financial tool used to determine whether a company earned a profit or incurred a loss within a given time frame. The time frame could be one day, one week, one month or one year; but no more than a one year period. An income statement is developed by listing all revenues (sales) within a specific time frame, listing all cost of goods sold and operating expenses within the same time frame. Then you subtract all the costs and expenses from the revenues to arrive at Earnings Before Taxes (EBT) for that time frame.  Earnings before taxes is also referred to as net income before taxes (NIBT) as well as Operating Income.  Income taxes are then calculated and subtracted from earnings before taxes to arrive at the Net Income After Taxes or what many people refer to as - THE BOTTOM LINE. 

Existing businesses develop their income statement using actual revenues and expenses incurred over a specific time frame. If you are planing to open a business, however, you will not have actual revenues or expenses, since you are only in the planning stages of your business. In this case, you will be required to anticipate (forecast) revenues and expenses over a one year period, for a minimum of three years. In other words, you will construct what is known as an annual forecasted income statement for three years. Three annual forecasted income statements (as well as three annual forecasted balance sheets and three annual forecasted cash flow statements) will appear in the financial section of your business plan. The forecasted Income statement will show investors such as banks, governments, and private entities, if your business expects to make a profit or a loss. The purpose of this section is to explain the components of the income statement. It will not show you how to construct a forecasted income statement; we show you how to do that in another section entitled "Developing Your Forecasted Financial Statements". Now lets construct an income statement using the following assumptions.

Lets assume, you own a bicycle rental business called TRY OUR BIKES.  The business operates between May 1 and August 31 each year (i.e. seasonal business). You are the sole owner and the only "employee". Your credit granting policy states that all customers MUST pay their rental fees before receiving a rental bike ( ie no credit offered to customers).

Lets further assume today's date is August 31, 200X and the following information is known. From May 1 to August 31, 200X you had 1000 customers each paying a $20.00 bicycle rental fee. Also, 500 of the 1000 customers rented safety equipment for $10. Therefore, $20,000 was received in bicycle rentals (1000 people X $20.00) and $5,000 was received in renting safety equipment. In addition, the following expenses were incurred over the period (from May 1 to August 31); $3,500 for newspaper advertising, $500 for developing brochures and pamphlets, $8,250 for office rent, $1,300 for telephone and other utility expenses, $1,000 for office supplies (all of which were consumed or used up by August 31, 200X) $300 for interest on a loan you received to open the business, and $150 for registration of the TRY OUR BIKES company name. What is your Net Income or Net Loss for your business for the period of May 1 to August 31, 200X. Assuming your income tax rate is 30%.

Our task is to organize the above numbers into an income statement format. Here is what the income statement for TRY OUR BIKES would look like on August 31, 200X:

TRY OUR BIKES
Income Statement
For the Period Ending August 31, 200X

REVENUE:
Bicycle rental revenue $20,000
Safety equipment rental revenue $ 5,000
TOTAL REVENUE $25,000

OPERATING EXPENSES:

Marketing(selling) Expenses:
Newspaper Adverting Expense $ 3,500
Brochures & Pamphlets Expense $ 500
Total Marketing Expenses $ 4,000

Administrative Expenses:
Rent Expense $ 8,250
Telephone & Utilities Expense $ 1,300
Office supplies Expense $ 1,000
Interest Expense $ 300
Company Registration $ 150
Total Administrative Expenses $11,000

TOTAL OPERATING EXPENSES $15,000

Earnings Before Taxes or Operating Income $10,000
Less: Income Taxes (30% rate) $(3,000)

NET INCOME $ 7,000

 

Notice the format required for the Income Statement. The statement contains six main sections beginning with a heading, followed by revenues, then the expenses are listed; giving you the earnings before taxes. An income tax rate is applied and subtracted from the earnings before taxes to determine the net income (IE net income after taxes).

The remainder of our discussion has been organized in the following manner:  Review each item in the order they appear below.

Also refer to the article entilted, "income statement and cash flow statement" for information relating to the similarities and differences between the income statement and the cash flow statement.

 

EXAMPLES OF THE INCOME STATEMENT:

J&B Incorporated
Scholarship Information Services
The Internet Company
The Maple Syrup Company

 

Categories: Financial