NFIB

How to Create an Income Statement
04/ 15/ 2002


An income statement (often called a profit and loss statement), is a key tool for your small businesses because it enables you to see your total financial picture in a nutshell. Income statements are prepared for a specific time frame, such as from January 1 to January 1. They can also be prepared quarterly (or for any specific time frame) so that you can have a more up-to-date picture of your financial situation. In today's Workshop, Jeffrey Moses outlines the step-by-step creation of an income statement.

The seven categories are:

1) "Revenues," which comprise the total amount of sales you made during the period.

2) "Cost of Goods Sold," which includes the money invested in purchasing products, or purchasing materials used in manufacturing. The Cost of Goods Sold is usually determined by taking the total retail value of inventory at the beginning of the period, subtracting the value of inventory at the end of the period, and adding your cost for purchasing materials.

3) "Returns and Allowances," which includes all items returned under money-back guarantees or because of customer dissatisfaction. It is sometimes included in Cost of Goods Sold when returns are small.

4) "Gross Profit," which is calculated by subtracting Cost of Goods Sold from Revenues. Revenues divided by Gross Profit is called gross margin.

5) "Expenses," which include all direct operating expenses (advertising, commissions, salaries, utilities, rent, office supplies, etc.) and indirect expenses (training, consulting, attorney fees, research and development, cost of loans, etc.)

6) "Net Profit Before Taxes" is determined by subtracting Expenses from Gross Profit.

7) "Net Profit" is determined by subtracting taxes from Net Profit Before Taxes.
Categories six and seven show how profitable a business has been during a period of time. Each of these categories can be examined in detail to see how a business is performing in specific activities. For instance, if a company has a large "Returns and Allowances," examination of products or services may need to be made. "Expenses" should be meticulously kept because only by knowing all expenses can budgets be maintained.

Note: service businesses often disregard Cost of Goods Sold. As a result, Revenues and Gross Profit are the same.

Next week's Workshop will address details of creating a Balance Sheet, which shows a complete picture of a business at any specific point in time.

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