An Income Statement (also called a profit-and-loss statement or simply P&L) is a financial statement that shows how a company or unit has performed financially over a specified period.
The Income Statement provides information about revenues (sales), expenses and profits to investors and potential investors. By studying the Income Statement, investors can assess whether a company has earned a reasonable amount of money and determine what portion of that income is derived from operations and investing activities.
At a unit (often referred to as business unit), the Income Statement typically includes revenues from sales or services, cost of goods sold, operating expenses, depreciation, income from investments and interest expense. It may or may not include income taxes and special charges. Many Income Statements also include a summary of balance sheet information, including cash, accounts receivable, accounts payable and long-term debt.
A good way to read an Income Statement is to start at the top, with net sales or revenues. Revenues represent the total amount of money received by the company from the sale of goods and services during the period. This is usually displayed as the first number on an income Statement.
Next, you would then subtract out the Cost of Goods Sold (COGS). This is the amount of money spent to acquire raw materials and other costs associated with producing the goods. COGS does not include operating expenses such as wages, rent, depreciation, and insurance.
By subtracting the Cost of Goods Sold, you will get Gross Profit. Gross Profit represents the difference between revenues and costs and is an important measure of profitability.
The next level of the Income Statement is the Operating Expenses line. Operating expenses include Sales and Marketing, Research and Development, General and Administrative expenses, and various other overhead expenses. These expenses are not related to specific projects or customers, but are necessary expenses incurred in running the business.
Once these expenses are subtracted from Gross Profit, you will get Operating Income (also known as Earnings Before Interest and Tax or EBIT). This line item represents the amount of money that is earned after all expenses are accounted for and is an important measure of profitability.
After Operating Income, the Income Statement usually includes a few miscellaneous expenses, such as write-offs or gains and losses on investments. Finally, you will get to Net Income (or Loss), which represents the total amount of money earned or lost by the business.
Some of the components of an Income Statement are:
- Revenues – gross sales and other revenues generated during the reporting period.
- Cost of Goods Sold - the cost of producing the goods sold or services rendered.
- Operating expenses - selling, general and administrative expenses, depreciation, interest expense and taxes.
- Net income/(loss) - the remaining amount of money earned or lost by the business after all variables are accounted for.
The Income Statement measures the profitability of the business over a period of time. It shows how much money the business has earned or lost during that period. Investors use the Income Statement to evaluate the performance of a company and make decisions about where to invest. The key number to look at on the Income Statement is Net Income which represents the true “bottom line” of the business.
For a more concrete example, here's an Income Statement from Microsoft :