The Income Statement - Business Finance - ثاني ثانوي

3.3 The Income Statement Link to digital lesson Key Term Income statement What makes a company successful? Is a company doing well, or is it struggling to survive? How can you tell what the firm's financial health is? At a very basic level, a company is considered to be successful if it is generating income and making a profit. Companies use a report called an income statement (or a profit-and-loss statement) to summarize this. The income statement focuses on four key items-revenue, expenses, gains, and losses-during the specific accounting period. Income statements are often released as quarterly (every three months) and annual (every year) reports. The income statement tells investors how much accounting income or profits the company has earned during a period of time (for example, its fiscal year). It is a summary of revenues and expenses and indicates the firm's accounting profits or losses. The income statement equation is illustrated in Figure 3.6. It is not, however, a detailed summary of cash receipts and disbursements. www.den.edu sa Income statement Financial statement tha summarizes revenues and expenses for a period of time to determine profit or loss FIGURE 3.6 Revenues Expenses Net income The Income Statement Equation Figure 3.7 provides the 20X1 and 20X0 income statements for Daana's Delights. The statement is constructed as follows: ⚫ Step 1: The statements start with a summary of the firm's sources of revenues: net sales (total sales minus returns) of SAR 10,200,000 in 20X1. • Step 2: Next follows a summary of the cost of goods sold (SAR 6,600,000). ■ Step 3: Gross profit is calculated as the difference between the net sales and the cost of goods sold (SAR 3,600,000). • Step 4: Then, the selling, administrative expenses, and depreciation are subtracted to determine the operating earnings or earnings before interest and taxes (SAR 1,500,000). (Note: If the firm has other sources of income for instance, dividends received-they are added to the وزارة التعليم CHAPTER 3 Analysis of Financial Statements 97

• operating earnings to determine the company's total earnings before interest and taxes.) Step 5: To determine net earnings, net interest expense (SAR 340,000 - SAR 65,000) and taxes (SAR 380,000) must be subtracted from the SAR 1,500,000, which yields net earnings of SAR 845,000. When the firm earns profits, management must decide what to do with these earnings. There are two choices: (1) to pay out the earnings to stockholders in the form of cash dividends, or (2) to retain the earnings. The retained earnings on the balance sheet are the sum of all the firm's undistributed earnings that have accumulated but that have not been paid out in dividends during the company's life. These retained earnings are used to finance the purchase of assets or to retire debt. How this year's earnings were used does not appear on the income statement. The income statement merely summarizes revenues and expenses during the fiscal year and indicates whether the firm produced a net profit or loss. FIGURE 3,7 Dec For the Fiscal Year Ending 31, 200 2001 2010 Deane's Delights Statement of income Sales Cost of goods sold Gross profit (Loss) 10,200,000 (6,600,000) SAR 3,500,000 10,100,000 (6,400,000) SAR 3,700,000 98 Business Finance . Selling and administrative Net operating income (2,100,000) 2,100,000) SAR 1,500,000 SAR 1,000,000 Interest income Interest expense Profit before tax 65,000 (340,000) 42,000 1370,000) SAR 1,225,000 SAR 1,272,000 Income tax expense Net Profit (Loss) (380,000) SAB 845,000 (370,000) SAR 902,000 Earnings per common share: For the Fiscal Year Ending December 31, 20XX Earnings per common share (430,000 shares of common stock outstanding) 20x1 20X0 SAR 1.97 2.10

3.3a Earnings Per Share Stockholders are generally not concerned with total earnings but with earnings per share. The separate line after the income statement in Figure 3.7 shows the earnings per share (EPS = SAR 1.97), which is net earnings (845,000) divided by the number of shares outstanding (430,000). This is the amount of earnings available to each share of common stock, and may not be simply earnings divided by the number of shares outstanding at the end of the year. Since the firm may issue or repurchase stock throughout the year, it does not have the use of the funds for the entire year. The funds raised by issuing shares (or the funds used to repurchase shares) could not generate current income. Thus, shares outstanding are averaged over the year to determine earnings per share: Net earnings Earnings per share Number of shares outstanding 20X1. Earnings per share= 845,000 430,000 SAR 1.97 20X0: Earnings per share = 902,000 430,000 = SAR 2.10 وزارة التعليم CHAPTER Analysis of Financial Statements 99