As with most elements of financial statements, the key to quality assessment of an income statement is looking for trends over time. Compare the most recent statement with those of like periods in prior years to gauge the direction and progress of a company's business operations.
Revenues and expenses are recorded on an income statement at the time they are earned or incurred, regardless of when actual assets change hands. This is in accordance with the Accrual Accounting methods as discussed in Back to Basics, Part II.
We'll list each element of an income statement with a brief discussion below and then look much more closely at each category in the coming weeks. If you wish to follow along with an actual income statement as we go, click here for a recent SEC filing from Intel (Nasdaq: INTC). Note that each category will not appear on every income statement.
Sales or Operating Revenues: Net sales or service revenues.
Cost of Goods Sold: The amount the company paid in the production of goods it sold. Costs may include labor, materials, overhead, and depreciation.
Gross Profit: Total revenue of a business less cost of goods sold and selling and administrative expenses. Gross profit does not include income from incidental sources.
Operating Expenses: The expenses incurred in running the business. Operating expenses include selling and administrative expenses but exclude interest, taxes, and cost of goods sold.
Operating Revenues: Revenues from any regular business source.
Operating Income: The difference between normal business revenue and operating expenses. Excluded are expenses such as interest and taxes, as well as any unusual income such as gains from selling a subsidiary.
Other Revenues: Increases in assets resulting from transactions not directly related to operations. Interest earned on investments is an example of Other Revenues.
Other Expenses: Decreases in assets resulting from transactions not directly related to operations. Debt interest is an example of Other Expenses.
Income Before Taxes: Reported income before deducting income taxes.
Income Tax Expense: Provision for taxes on pretax income.
Income From Continuing Operations: After-tax income from operations that will continue.
Discontinued Operations: After-tax gain or loss on a portion of the business that is intended to be sold.
Extraordinary Items: After-tax gains or losses on nonrecurring transactions.
Net Income: The sum of all reported gains and losses.
Earnings Per Common Share: Net income divided by the average number of shares outstanding.
Diluted Earnings Per Common Share: Net income divided by the average number of shares of common stock that would be outstanding if all convertible securities were converted into shares of common stock.
That wraps up the introduction to the income statement. Tune in next week and we'll put each category under the electron microscope for a much closer look.
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