Business – 6 Practical Key Terms to Improve the Understanding of the Income Statement
While the income statement itself is simple, many non-accountants lack a basic understanding of it because the terms have come to mean many things for them; that is, they aren’t restricted to accounting only.
The income statement is a financial statement that measures the profits (or losses) of a business. And we can enhance our understanding of this statement by defining with precision 6 specific terms:
1. Revenues are increases in owner’s equity (capital). Revenues arise from either the performance of a service or the sale of merchandise. Examples of accounts that appear in the Revenue section are: service revenue, ticket revenue, rent revenue, and sales.
2. Other Gains and Revenues are increases in owner’s equity (capital) that arise from incidental activities; that is, activities that are secondary to the main line of business. Examples: interest revenue, gain on disposal of equipment, and gain on sale of securities.
3. Expenses are decreases in owner’s equity (capital). Expenses -also called operating expenses- arise in the course of generating revenues through the performance of a service of sale of merchandise. Examples: rent expense, salaries expense, supplies expense, utilities expense. These accounts are easily recognized because they all share the same last name (Expense).
4. Other Expenses and Losses are also decreases in owner’s equity (capital) that arise from incidental activities non-crucial to the operation of a business. Examples: Loss on disposal of equipment, and interest expense.
5. Cost Accounts -in a merchandising business- are decreases in owner’s equity that show the cost of the merchandise purchased. Examples: cost of goods sold, and purchases.
6. Net Income is the excess of the revenues over the expenses. For the public and the non-accountant, net income is the profit. Of course, when the expenses exceed the revenues, then we have a net loss.
Many companies present their income statement in a ’single step’ form, a form that summarizes the revenues and the expenses. A ‘multiple-step’ income statement is more detailed and informative.
The income statement is a dynamic statement, meaning that it shows the operations for a period of time. Thus, the heading will have a descriptive time line in its heading; for example: ‘For the Month (Year, or Quarter) Ended August 31, 2010.’
Marciano Guerrero
Retired Investment Banker, Corporate Controller, graduate of Columbia University, and Vietnam Vet
(1967-1968).
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