Income Statement

what does "operating expenses" NOT include?

"operating expenses" does NOT include interest and taxes.

net profit

Gross Profit - Expenses

Given the following information, compute income from continuing operations; Cost of Goods Sold $2,000 Extraordinary Item -170 Income Taxes 350 Interest Expense 200 Operating Expenses 1,500 Sales 5,500 $3,500 $1,280 $2,000 $1,450

$1,450 WHY: $5,500 - $2,000 - $1,500 - $350 - $200 = $1,450

Given the following information, compute operating income: Cost of Goods Sold $2,000 Extraordinary Item -170 Income Taxes 350 Interest Expense 200 Operating Expenses 1,500 Sales 5,500 $1,450 $2,000 $1,280 $3,500

$2,000 WHY: $5,500 - $2,000 - $1,500 = $2,000

Given the following information, compute comprehensive income - Extraordinary Loss -80 Income Taxes 150 Interest Expense 100 Operating Income 1,500 Unrealized Gain not included in Net Income 120 $1,250 $1,500 $1,290 $1,170

*** $1,290 *** WHY: $1,500 - $150 - $100 - $80 +120 = $1,290 so "comprehensive income" requires you to minus "extraordinary loss" and ADD the "unrealized gain not included in net income"

Operating Income is equal to? Income from Continuing Operations plus Income Tax Expense and Interest Expense plus/minus other miscellaneous revenues, expenses, gains, and losses Gross Profit plus Cost of Goods Sold Sales less Cost of Goods Sold Comprehensive Income plus and unrealized gains and losses not included in Net Income

*** Answer: Income from Continuing Operations plus Income Tax Expense and Interest Expense plus/minus other miscellaneous revenues, expenses, gains, and losses ***

low interest rates ---> less importance of "inflation-adjusted income computations"

Accountants in the United States experimented with inflation-adjusted income computations in the late 1970s and early 1980s. The low level of inflation in the United States in recent years has caused the U.S. business community to lose interest in these adjustments.

Accruel Accounting

Accrual accounting is the process that accountants use in adjusting raw transaction data into refined measures of a firm's economic performance. The practice of accrual accounting requires that a company's performance be measured based on all of the cash flows—past, present, and future—that will result from the company's actions undertaken during the current period. In spite of the fact that the economic loose ends of some business deals extend for years, financial statement users still require periodic reports about a company's operating performance. As you can see in Figure 5-2, the beginning and the end of a year are arbitrary breaks in the life of an ongoing business. The job of accountants is to consider all business deals that were at least partly completed during a year and to measure the profit associated with those deals. This profit is then reported as net income for the year. ex. buying a car: warranty x 2 years, paying retirement benefits x 40 years for the company For example, imagine that you have just completed a $20,000 consulting contract but so far have only collected $3,000 of your fee in cash. To state that you made $3,000 on the contract is very misleading since you fully expect to collect the additional $17,000 in the future. The practice of accrual accounting requires that a company's performance be measured based on all of the cash flows—past, present, and future—that will result from the company's actions undertaken during the current period. Thus, according to accrual accounting your revenue on the consulting contract is $20,000 whether you have collected that amount in cash already or whether you expect to collect the cash in the future. Obviously, the practice of accrual accounting requires one to exercise judgment in estimating the future cash flows that will result from current actions. One of the important economic contributions made by accountants is the collection of accrual accounting rules which, when applied to a company's raw cash flow data, result in a superior measure of that company's economic performance.

extraordinary gains and losses

Also called extraordinary items, these gains and losses are both unusual for the company and infrequent. extraordinary items are defined as events or transactions that are unusual in nature and infrequent in occurrence. ex. huge flood ex. For example, a company suffering a large uninsured loss from an earthquake would report the loss as an extraordinary item. The effect of an extraordinary item is disclosed separately after income from continuing operations. In 1995, Sprint, the telecommunications giant, reported an extraordinary loss of $565 million.

what insight is the foundation of successful forecasting income in future?

An important use of an income statement is to forecast income in future periods. *** Good forecasting requires an understanding of what underlying factors determine the level of a revenue or an expense.*** Most financial statement forecasting exercises start with a forecast of sales, which establishes the expected scale of operations in future periods. Some balance sheet items increase naturally as the level of sales increases; examples of such accounts are cash, accounts receivable, inventory, and accounts payable. Other balance sheet items, such as property, plant, and equipment, change in response to a company's long-term strategic plans. Finally, the amounts of the balance sheet items associated with financing, such as long-term debt and paid-in capital, are determined by the financing decisions made by a company's management. Some income statement items, such as cost of goods sold, maintain a constant relationship with sales. Depreciation expense is more likely to be related to the amount of a company's property, plant, and equipment. Interest expense is tied to the balance in interest-bearing debt. Finally, income tax expense is typically a relatively constant percentage of income before taxes.

Assets equation

Assets = Liabilities + Paid-in Capital + (Revenues − Expenses − Dividends)

Comprehensive Income equation

Comprehensive Income = Net income - other Comprehensive Income (aka OCI) an income measure that includes gains and losses that are excluded from the determination of net income

what does "Comprehensive Income" mean to an accountant?

Comprehensive Income = the net delta in shareholder wealth for that year, which excludes new investment and investment withdrawal.

Comprehensive income

Comprehensive income: net income plus or minus adjustments for changes in company wealth stemming from changes in certain exchange rates, interest rates, or financial instruments' values.

operating expenses

Costs involved in operating a business, such as rent, utilities, and salaries, EXCEPT for interest and taxes. All of the expenses involved in running a business, except interest and taxes. A general rule of thumb is that all expenses are operating expenses except interest expense and income tax expense. Accordingly, another name for operating income is EBIT, or earnings before interest and taxes.

what is "EBITA"?

Earnings before interest, taxes, depreciation, and amortization

Gross Profit equation

Gross Profit = Operating Income - Operating Expenses net sales $$$ - cost of goods sold $$$.

Gross profit

Gross profit: the difference between the selling price of a product and the cost of the product.

Net Income vs. income from continuing operations???

In the absence of any irregular items, net income is the same as income from continuing operations.

Income from continuing operations equation

Income from continuous operations = (Operating Income, aka EBIT) - (interest and taxes) aka. profits generated by the company $$$ that will stay in the company operations into the next year

what are "below-the-line items" on an income statement?

Income from discontinued operations and extraordinary items are collectively referred to as the below-the-line items.

single-step income statement vs. mutiple-step income statement

Income statements are prepared in a variety of formats. One useful format is the multiple-step income statement. A single-step income statement merely groups all of the revenues and all of the expenses, and reports the overall difference as net income. A multiple-step income statement emphasizes the presentation of gross profit and operating income.

what is the expanded accounting equation? what does it take into account?

Individual transactions impacting income can be analyzed using the expanded accounting equation which is: Assets = Liabilities + Paid-in Capital + (Revenues − Expenses − Dividends) The insight behind the expanded accounting equation is that equity can be decomposed into paid-in capital and retained earnings and that revenues, expenses, and dividends are just temporary subcategories of retained earnings. Revenues increase equity; and expenses and dividends represent a reduction in equity.

what does "below the line" refer too?

Items not included in "income from continuing operations". So "below the line" = income from discontinued operations and extraordinary gains and losses

Net Income equation

Net Income = Income from continuing operations - (income from discontinued operations and extraordinary gains and losses) Net income is the accountant's attempt to summarize in one number the overall economic performance of a company for a given period. Because net income is an overall summary number, it includes items from the two "below-the-line" categories mentioned above (income from discontinued operations and extraordinary gains and losses).

Net Income

Net Income = total revenue and total expenses ***refers to only $$$ generated by the business, but NOT interest or investments *** Net income: income from continuing operations plus or minus the results of discontinued operations and extraordinary items, net of their respective income tax effects. Net income includes all revenues, expenses, gains, and losses.

Net Profit Margin

Net Income/Sales

Net Income

Net income is typically viewed as the fundamental measure of a company's profitability, but there are also a variety of other measures of "income." The best measure of sustainable profitability is income from continuing operations. Five key measures of income are as follows: Gross profit: the difference between the selling price of a product and the cost of the product. Operating income: gross profit minus all other expenses except for interest and taxes. Operating income measures the performance of the fundamental business operations conducted by a company. Income from continuing operations: operating income minus interest expense, minus income tax expense, and plus or minus other miscellaneous revenue and expense items, and gains and losses from peripheral transactions and events. Income from continuing operations is the best baseline from which to forecast a company's income for the following year. Net income: income from continuing operations plus or minus the results of discontinued operations and extraordinary items, net of their respective income tax effects. Net income includes all revenues, expenses, gains, and losses. Comprehensive income: net income plus or minus adjustments for changes in company wealth stemming from changes in certain exchange rates, interest rates, or financial instruments' values.

income from discontinued operations

On occasion, a company elects to dispose of a major business segment. After such a decision is made, the results of the discontinued segment are reported separately, along with any gain or loss associated with the disposing of the segment. For example, K-Mart closed 599 stores in 2002 and 2003. For those stores that met the technical definitions associated with discontinued operations, the results were disclosed separately in a line item on the income statements for the years 2001, 2002 and 2003. That is, the sales and expense figures provided in the operating section of the income statement reflected sales and expenses only for those stores that were expected to continue. The results of those stores that were discontinued were reported in a separate section after continuing operations.

Operating Income Equation

Operating Income = Gross Profit - Operating Expenses..

Operating income

Operating income = gross profit - all other expenses except for interest and taxes. Operating income = gross profit - EBIT aka. take gross profit and subtract income taxes, subtract interest expenses, and any miscellaneous gains or losses. Operating income: gross profit minus all other expenses except for interest and taxes. Operating income measures the performance of the fundamental business operations conducted by a company.

"Return"

Return = Net Income/Sales = Net profit margin = Net Earnings

what should expenses be recognized?

Revenue should be recognized when value has been delivered to customers which is typically only after the required work has been performed and after the collection of cash is reasonably assured. The matching concept has traditionally been used to decide when to recognize expenses.

what should Revenue should be recognized in an income statement?

Revenue should be recognized when value has been delivered to customers which is typically only after the required work has been performed and after the collection of cash is reasonably assured. The matching concept has traditionally been used to decide when to recognize expenses. In order for revenue to be recognized, the promised work must be done and cash collection must be reasonably assured. A useful concept in recognizing expenses is that of matching, which states that an expense should be recognized in the same period in which the revenue it was used to generate is recognized. When direct matching is not possible, expenses are recognized using either systematic allocation or immediate expensing.

Net Income

Revenues - Expenses

what are the primary categories of income statement items?

The primary categories of income statement items are revenues, expenses, gains, and losses. Income statement items that do not relate to a company's continuing operations are income from discontinued operations and extraordinary items. Some of the types of activities through which a company can generate revenue are: selling of goods, providing of services, and earning of interest through loaning money to others. The key expense items are cost of goods sold; selling, general, and administrative expense; depreciation expense; interest expense; and income tax expense. Gains and losses arise from activities that are peripheral to a company's main operations. Income from discontinued operations and extraordinary items are collectively referred to as the below-the-line items. Earnings per share (EPS) is the amount of net income associated with each share of stock. In addition to basic EPS, computation of diluted EPS adds information about the potential impact on EPS of the exercise of stock options and other rights to acquire shares.

What is OCI (Other Comprehensive Income)?

Unrealized (paper) market gains or losses that come from wealth changes generated by changing market prices. 1. Unrealized gains/losses of AFS securities 2. Gains/losses on derivatives 3. Certain pension plan amounts 4. Foreign transaction costs

physical capital maintenance concept

an increase in actual physical resources (your productive capacity increases) physical capital maintenance concept states that income is earned only when one experiences an increase in actual physical resources (your productive capacity increases).

What is the "bottom line"?

economic profit generated this year

The proper order on an income statement for the various measures of income is: gross profit, income from continuing operations, operating income, net income, comprehensive income operating income, gross profit, income from continuing operations, net income, comprehensive income gross profit, operating income, income from continuing operations, net income, comprehensive income operating income, income from continuing operations, gross profit, net income, comprehensive income

gross profit, operating income, income from continuing operations, net income, comprehensive income

Gross Profit Margin

gross profit/net sales

financial capital maintenance concept

increase in your cash $$$ increase in your financial resources (increase in $ amount in your wealth)

what is "EBIT"??

operating expenses except interest expense and income tax expense, "EBIT", or earnings before interest and taxes (and misc expenses).

Income from continuing operations

take operating income and subtract income from discontinued operations and extraordinary items. Income from continuing operations: operating income minus interest expense, minus income tax expense, and plus or minus other miscellaneous revenue and expense items, and gains and losses from peripheral transactions and events. Income from continuing operations is the best baseline from which to forecast a company's income for the following year.

Net income

the difference between total revenue and total expenses when total revenue is greater