How to make an income statement?
Are you a business owner? Do you want to know how to draw up an income statement?
In this article, we explain what an income statement is, how it’s different from both a balance sheet and a differential income statement. You’ll also discover the items to include in an income statement: income, expenses, and results. And finally, how to analyse this annual account?
- Understanding an income statement
- Revenue in an income statement
- Expenses in an income statement
- The results of an income statement
- How to analyse an income statement?
1. Understanding an income statement
The income statement, also known as a profit and loss account, is a summary statement that must be drawn up from the start of the company, covering financial items from the beginning to the end of the financial year. The aim is to summarise the company's income or revenue and expenditure or expenses.
Why do I need an income statement?
This financial document takes into account only those operations likely to increase or decrease as a result of the year under review.
The income statement table enables managers to know whether the company's business has generated profits (expenses are less than income) or whether it has incurred losses (expenses are more than income).
Differences between a balance sheet and an income statement
The balance sheet and the income statement are two basic elements of a company's accounting. Although these two statements are similar, they convey different information.
A balance sheet shows the assets of the company since its creation, while the income statement summarises the operations carried out only during the past year.
Differences between profit and loss account (income statement) and differential profit and loss account
You should not confuse the profit and loss account with the differential profit and loss account. The latter is an essential document for management control to show the margin on variable costs and to determine the company's break-even point.
2. Revenue in an income statement
Revenue represents the resources that contribute to the company's wealth. They correspond in particular to turnover for operational companies and to financial income received for holding companies.
Income can be grouped into 3 categories in a detailed income statement:
- Operating income (sale of goods, production sold, operating subsidies, etc.)
- Financial income (holdings, securities and receivables, other interest and similar income, etc.)
- Extraordinary income (on management operations, on capital operations, etc.)
Forecast turnover is also considered as income and can be included in the profit and loss account.
3. Expenses in an income statement
Expenses corresponding to the acquisition of goods or services consumed for the proper functioning of the company. They are classified into 3 categories:
- Operating expenses (purchase of goods, purchase of raw materials, changes in inventories, personnel expenses, taxes and duties, depreciation and provisions, etc.)
- Financial expenses (depreciation and provisions, interest and similar expenses, etc.)
- Exceptional expenses (on management operations, on capital operations and depreciation and provisions)
It should be noted that these various expenses reduce the wealth produced by the company.
4. The results of an income statement
In the income statement table, income and expenses must be placed in a well-ordered manner in order to facilitate the calculation of the various sub-results and the net result for the year.
Net result for the year
From a simplified or detailed income statement, the company director can calculate the net result for the year. This is the difference between income and expenses.
Net result for the year = Operating result + Financial result + Extraordinary result
This is the difference between operating income and operating expenses.
Operating result = (Turnover + Investment grants allocated to the income statement + Operating grants) - (General costs + Taxes + Personnel costs + Depreciation)
This is the difference between financial income and financial expenses.
Financial result = (Participations + Other securities and receivables + Other interest and similar income + Write-backs of provisions and transfers of charges + Positive exchange rate differences + Net income from the sale of marketable securities) - (Depreciation, amortisation and provisions + Interest and similar charges + Negative exchange rate differences + Net charges from the sale of marketable securities)
This is the difference between exceptional income and exceptional expenses.
Extraordinary result = (Income from management operations + Income from capital operations, disposal of assets + Income from capital operations, investment subsidies + Other capital operations + Write-backs of provisions and transfers of expenses) - (Expenses from management operations + Expenses from capital operations + Depreciation and provisions)
This simplified income statement gives an overview of the above elements.
If necessary, ask an accountant to help you understand this document better.
How to analyse an income statement?
Allocating expenses and income to different categories of the income statement allows managers to measure the performance of their company.
Analysing the operating result
It is essential to ensure that your operating result is positive, especially if you intend to present your profit and loss account as a PDF to your financial partners (banks, credit institutions, etc.).
This income statement is an important argument for convincing your partners to grant the financing that your company needs.
Calculation of financial indicators and ratios
The income statement table also allows you to calculate several financial indicators and ratios, namely:
- The trade margin rate, which is the percentage of profit earned from the sale of a product in relation to its purchase price
- The brand rate, which is the percentage of earnings received for the sale of a product in relation to its selling price
- Gross operating surplus (GOS), which reflects the ability of the company to create cash resources through its operating item only
- The debt ratio, which determines the proportion of turnover used to pay your financers (partners, bankers, etc.)
- The economic profitability rate, which corresponds to the profitability of the business in relation to turnover
- The staff yield, which makes it possible to quantify the contribution of staff to the turnover
Are you thinking of setting up a business and drawing up a business plan? Note that the construction of a projected income statement is based on the same principle as a "classic" income statement.
Knowing how to construct an income statement is essential in order to reconcile all the company's income and expenses and to determine the net result for the year. The manager can entrust this task to his accountant or outsource it to an accounting firm.
Business owners and managers can also use specialised software to draw up the annual accounts. The most important thing, however, is to know how to read, interpret and analyse this financial document in order to assess the company's performance over the past year.