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  • In this video you'll learn what an income statement is.

  • I'll show you what it looks like and how you can use it to

  • measure a business's financial performance.

  • [Music]

  • Hey there

  • welcome back to Accounting Stuff I'm James and in today's video

  • we're going to cover the income statement

  • also known as the profit and loss statement or the P&L

  • for short. This is one of the three major

  • financial statements in accounting along with a balance sheet

  • and the cash flow statement. Collectively these reports

  • give us an impression of a business's financial health

  • so it's important that we understand how they work.

  • I've already made videos covering the balance sheet and the

  • cash flow statement which you can find linked up here and

  • down below in the description. But up until now I haven't posted

  • a video yet on the income statement and I've received a lot of requests

  • from you guys to cover this topic so thanks for all these

  • particularly from one subscriber so Niloy, if you're watching

  • this video goes out to you good luck in your exam

  • hope you crush it! An income statement is the

  • summary of a business's revenues and expenses over a period of time.

  • In its basic form an income statement looks like this.

  • It's a summary of a business's revenues and expenses

  • over a period of time. When we take our total revenue and

  • subtract our expenses from it then we work out our profit or our loss.

  • We make a profit when our revenues exceed our expenses

  • and on the flip side we make a loss when our expenses

  • are more than the income we've earned. This is why the income statement

  • is also known as the profit and loss statement or the P&L

  • for short. It lays out a roadmap for how we

  • ended up here at the bottom line

  • our profit or loss. The income statement

  • always covers a period of time which could be anything that we

  • want it to be but typically we run it for a month

  • a quarter or a full year. Here's a helpful analogy

  • that I read in this book the accounting game

  • which I recommend reading if you're new to accounting

  • you can find my review of it up here. Anyway back to it.

  • If a balance sheet shows us a snapshot of a business's assets

  • liabilities and equity at a single point in time then you can

  • think of it as a photograph or a still frame taken from a video.

  • Whereas the income statement covers a period of time

  • it's like watching a clip of that video it has a beginning and it has an end

  • and if we look at it carefully and analyse it then it can tell us a story

  • but more on that later. Let's take a closer look at our

  • income statement. Revenues less expenses

  • make us a profit or a loss. The problem with this layout

  • is that it doesn't give us much detail it would be much better

  • if we made things a little more descriptive for instance

  • revenue there are many different types

  • of revenue. If we were running a business that sells

  • physical products then we might want to call this product sales instead

  • or if we provide services we can call this our services rendered.

  • This extra detail helps the readers of the income statement

  • better understand what they're looking at. Clarity is the aim of the game here.

  • The same goes for expenses businesses typically incur many

  • different types of expense but broadly speaking these can be

  • broken down into two categories our direct costs of doing business

  • and our indirect costs of running the business. Our direct costs of doing business

  • are the costs which we can directly trace through to the products

  • we've sold or the services that we've provided.

  • For a business that provides services we might call this our cost of services

  • and if we sell physical goods then we can call this our cost of sales

  • or our cost of goods sold. Direct costs like these are variable costs

  • which increase in direct proportion to the sales that we've made.

  • If you were running a retail or a wholesale business

  • then these would include things like the original purchase price

  • of the product that you're reselling or if you've run a manufacturing business

  • then this would include the cost of your raw materials

  • or the direct labor cost that went into producing your product.

  • As we make more sales we incur more of these direct costs.

  • Cost of goods sold can be a bit of a tricky concept to

  • understand at first. It ties in very closely with inventory

  • in the balance sheet. If you'd like to see me make a video

  • explaining how all of that works then let me know

  • down below in the comments and if you haven't already

  • remember to hit that subscribe button so you don't miss out on all of

  • the other accounting tutorials that we have coming out very soon.

  • Back to the income statement. When we take our revenue and

  • deduct our direct costs of doing business

  • we get to our gross profit. If you're new to accounting

  • then you'll soon discover that we have many different types of profit.

  • Our gross profit is a really useful tool that allows us to measure

  • the efficiency of our production and sales process.

  • I'll show you how that works in a minute

  • but first let's jump back to indirect costs. These are the costs

  • of running a business which can't directly be traced back

  • to the production of goods or the provision of services.

  • We sometimes call these overheads. Overheads can include fixed costs

  • like rent employee salaries

  • insurance costs admin expenses

  • legal costs accounting costs

  • marketing costs depreciation and amortisation

  • there's a lot of them! Fixed costs like these

  • tend to remain the same they bear no correlation at all

  • to the sells that your business has made. However not all overheads are fixed.

  • Variable overheads can loosely correlate with a business's sales

  • although they can't be directly traced back to the production of goods

  • or the provision of services. These include things like

  • advertising costs which can indirectly drive sales

  • and sales commissions. Utility costs could also be considered

  • a variable overhead in a manufacturing business

  • because these can increase as we ramp up production.

  • When we deduct our indirect costs of doing business from our gross profit

  • we come to our operating profit. Operating profit measures the

  • net income that we've generated from operations

  • this is the residual amount that's left over after deducting

  • all of our direct and indirect costs of doing business.

  • So this is our basic income statement but how does it help us measure

  • a business's financial health? It does that by giving us a means

  • to compare our financial performance against comparative accounting periods.

  • A comparative period is a different period of time.

  • It can be whatever we want it to be we can compare

  • a current month income statement against last month's income statement

  • or this year versus last year. When we use comparative periods

  • we can calculate the change or movement across each line item

  • down the profit and loss statement and as accountants it's our job

  • to support these movements with a narrative which explains

  • all of the differences. Let's throw in some numbers

  • into an imaginary company and I'll show you what I mean.

  • We'll compare the movements in our P&L year-on-year.

  • This is going to be for a medium-sized business

  • so we can quote our numbers in thousands of dollars.

  • What have we got here? Our imaginary company

  • has made sales of a hundred and ten thousand dollars

  • which is up ten thousand dollars from what we made in the prior year.

  • Our cost of goods sold have also increased by

  • ten thousand dollars from $30,000 to $40,000

  • that's left us with a gross profit of seventy thousand dollars

  • which has remained unchanged. Our overheads are fixed

  • at forty five thousand which gives us an operating profit

  • of twenty five thousand dollars in each period.

  • What can we learn from all of this? Well our sales have increased

  • by ten thousand dollars but our gross profit has remained exactly the same.

  • How can that be? A useful metric that we can use

  • to analyse this is gross profit margin. We can calculate our gross profit margin

  • by taking our total product sales and deducting our costs of goods sold

  • and then dividing the whole lot by our product sales.

  • This measures how efficiently we've been producing and selling

  • our imaginary product. In this case our gross profit margin

  • in the current year is around 64% which is actually down

  • from last year's gross profit margin of 70%. How is that possible?

  • Well one of two things could be happening here.

  • Our sales can be shrinking or our costs could be rising.

  • We could be selling more products but at a discount

  • or the cost of our raw materials could be rising.

  • These are the questions that we need to be asking ourselves

  • as accountants investors or small business owners.

  • We can compare metrics like the gross profit margin

  • across comparative periods to help us identify what questions

  • we should be asking and then that's when the work begins.

  • We need to find out the answers and use them to build a narrative

  • that explains what's going on. Gross profit margin is just one of many

  • business metrics that we can use to analyse the income statement.

  • If you'd like to see me make videos on the others let me know.

  • Now this is still quite a basic income statement.

  • In reality there are other indirect costs of doing business which we might

  • need to include as well. Things like interest expenses and tax.

  • These tend to slot in below operating profit

  • because they aren't considered to fall within the normal

  • cost of operations. This is why operating profit

  • is also known as EBIT or earnings before interest and tax.

  • When we deduct interest in tax from

  • our operating profit we calculate our net profit

  • the bottom line because it's at the bottom

  • of the profit and loss statement. So you can see that there are many

  • different types of profit and loss to consider in accounting.

  • We start off with our revenue and we deduct our direct costs

  • of doing business to come to our gross profit

  • our top-line profit. Below this we take out

  • the indirect costs of running our business to find our

  • operating profit our EBIT

  • our earnings before interest and tax and when we remove interest and tax

  • we calculate our net profit the bottom line.

  • Together these different types of profit help us measure

  • performance over a period of time. The main goal of most businesses

  • is to maximise their profits so it's important to be clear

  • on what that means and to be aware of the differences

  • between gross profit operating profit and net profit

  • which can each tell us a different part of the story.

  • Like I mentioned earlier the income statement is just one

  • of the three main financial statements along with the balance sheet

  • and the cash flow statement. I've made videos covering

  • both of these already which you can find here and here.

  • If you found this one useful give it a like

  • or better yet share it with a friend

  • why not? Don't forget to subscribe

  • for more accounting tutorials! I'll see you round.

In this video you'll learn what an income statement is.

Subtitles and vocabulary

Operation of videos Adjust the video here to display the subtitles

B1 US profit income statement statement income gross accounting

The INCOME STATEMENT Explained (aka. Profit and Loss / P&L)

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    王惟惟 posted on 2020/01/12
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