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How To Read An Income Statement

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An Income Statement is a standard financial document that summarizes a company's revenue and expenses for a specific period of time, usually one quarter of a fiscal year and the entire fiscal year. It is important that both investors and company managers be able to read and understand this document in order to understand the company's financial condition.
Difficulty: Average
Time Required: Varies

Here's How:

  1. Sales Revenue. Often called the "top Line" this represents the amount the company has sold during the period. When there is more than one line of revenue shown above the Total Sales Revenue it provides detail as to which products or services are major revenue producers.
  2. Sales Costs. This is what it cost the company to generate the sales shown in Total Sales Revenue above. Compare the total costs to the total revenue, but also look at the cost of each line of product or service versus its revenue. Sales Costs is also known as Cost of Goods Sold (CGS).
  3. Gross Profit or (Loss). This is the difference between Sales Revenue and Sales Costs. If the difference is positive, and it had better be, it is profit. A negative difference is a loss and is shown in brackets.
  4. General & Administrative expenses are called G&A. These are the costs associated with running the company as opposed to the costs of making or buying the products (CGS above). These costs should be monitored closely and kept as low as possible.
  5. Sales & Marketing expenses. These are other costs not directly related to producing the product or service to be sold. While certainly necessary, sales and marketing costs should be monitored and compared frequently to similar numbers from other companies in the same industry with products in the same point in the life cycle.
  6. Research & Development (R&D) expenses. This is the part of its income a company is re-investing in the business to find and develop new products. It's an indication of how much management values innovation. Look at whether it is increasing or decreasing from year to year.
  7. Operating Income. This is what's left when you subtract all the operating expenses from Gross Profit.
  8. Income Before Taxes. After subtracting any interest paid on outstanding debt from Total Operating Income you are left with Income Before Taxes. This is the amount on which the company expects to have to pay taxes.
  9. Taxes. This is the amount the company has paid or expects to pay in taxes for the period. It includes all taxes to all jurisdictions.
  10. Net Income From Continuing Operations. After subtracting taxes from its income, this is what the company has left. Think of it like a workers take-home pay.
  11. Profit Margin. This varies from industry to industry, but is a good measure to compare similar companies, from either an investment or a benchmarking perspective. It's like the interest rate you get on your investment. The 5-6% shown by this company seems low for a manufacturer and would warrant looking into.
  12. Non-recurring Events. This is the cost of any one-time expenses, for instance, restructuring the business, a major layoff, or an un-reimbursed casualty loss. These are shown on a separate line so as to not confuse the "continuing operations" figure above.
  13. Net Income. This is what the company has left after subtracting all its expenses from its total revenue. If the difference is positive it is profit. A negative difference is a loss and is shown in brackets. For a company to remain healthy and in business, this number needs to be positive most of the time. Most for-profit companies strive to make it as big a positive number as possible.
  14. Dividends to Shareholders. Companies pay dividends to the shareholders who own the companies. If any dividends have been paid during the period being reported, they are shown on this line. These can be to common stock holders, preferred stock holders, or other investors depending on the company. Dividends usually are paid only once a year.
  15. Net Income Available to Shareholders. This is "the bottom line". This is the money the company has left at the end of the period. It is held for future needs, invested as the Board directs, or returned to investors in the future.

Tips:

  1. Print the Sample Income Statement at [url]http://management.about.com/library/blanks/blincomestatementsample.htm[/url] for an example as you read through these directions.

  2. Look up any terms you don't know in the Management Glossary at [url]http://management.about.com/library/blanks/blglossary.htm[/url]

  3. Be sure to read carefully the column headings above the numbers in an income statement. For example, since they read from newest to oldest, Q1 is to the right of Q2 rather than to the left.
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