by BATBOLD MUNKHZUL
Definition of an income statement
An income statement is a financial statement that shows us how profitable the business was over a given reporting period. It shows the revenue, minus the expenses and losses.
An income statement is often called a "net income statement" or a "statement of earnings," and is one of the three most important financial statements in financial accounting alongside the balance sheet and cash flow statement (or statement of cash flows).
In order to determine whether a small business is profitable, a bank or investor typically requests income statements.
How to prepare an income statement
Income statements can be customized to suit the particular needs of a company, team, department, or manager. That said, a general process of organizing revenue and expenses must be followed when preparing an income statement. Otherwise, managers aren’t guaranteed to compile the right records in the right format to provide insights into an organization’s profitability.
The four steps of writing an income statement are:
· Identify sources of revenue, as well as gains (from investments, for example)
· Identify company expenses and losses incurred over the same period
· Consolidate revenue, expenses, gains, and losses by category, payee, or another factor
· Add up revenue, expenses, gains, and losses to determine the company’s net income for the covered period
Accounting software makes preparing income statements much easier. Users can easily generate income statements with most accounting software by selecting the type of report they wish to build and then specifying the revenue categories and expense categories they wish to include or exclude.
Example of an income statement
Coffee House Enterprises Inc.
Income Statement
For Year Ended Dec. 31, 2021
ASSETS | |
Bank Account | $20,000 |
Accounts Receivable | $4,000 |
Equipment | $12,000 |
Total Asset | $36,000 |
LIABILITIES | |
Accounts Payable | $1,000 |
Long-term Dept | $10,000 |
Total Liabilities | $11,000 |
OWNER'S EQUITY | |
Capital | $12,000 |
Retained Earnings | $18,000 |
Drawing | -$5,000 |
Total Equity | $25,000 |
How to read the balance sheet
The balance sheet tells us how much value we have on hand (assets) and how much money we owe (liabilities). Assets can include cash, accounts receivable, equipment, inventory, or investments. Liabilities can include accounts payable, accrued expenses, and long-term debt such as mortgages and other loans.
ASSETS include all the value we have on hand. Some of it is cold hard cash—like the business bank account line item in the example above, which holds $20,000. Some of it is less liquid, like equipment or inventory. And some may not even be in our hands yet—accounts receivable, or payments due to receive.
LIABILITIES cost money. Subtracting them from our assets gives us a rough idea of how much value our business really has to work with. In the example above, accounts payable—typically payments to vendors or contractors—could be considered a short-term liability; probably pay them off each month. Other liabilities, like business loan debt, stick around longer.
OWNER’S EQUITY is the money that we, the owners, have sunk into the business. Capital is our initial investment, the money we used to get up and running. Retained earnings are the profit our business has held onto. And drawing, or owner’s draw, is the money we pay from our business.
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