In our last blog post, we took a closer look at one of the two most important financial reports in your business: the balance sheet. We looked at some of the basic types of accounts that you’ll see on your balance sheet – assets, liabilities and shareholder’s equity – and what they mean to a business. We had such positive feedback that in this blog post we’ll focus on the other: the income statement.
What is an Income Statement?
An income statement is a financial report that lists the income, expenses and net profit (or loss) for a business. Different from a balance sheet, which is a snapshot of a business’s finances at a particular moment in time, an income statement reports on a particular window of time.
An income statement is part of your year-end financials and shows how much money your business made or lost during your financial year, but business owners should review their income statement on a more regular basis – at least once per month – to keep up-to-date on how their business is performing.
As the balance sheet described the shareholder’s equity as the total value of the assets owned by the business less those monies owed by the business, the basic equation of the income statement is:
NET PROFIT = REVENUE – EXPENSES
The income statement shows that the net profit generated by a business is what is left over from the money a business makes after all expenses are paid. If the business spends more money than it makes then the business incurs a net loss instead of a net profit.
What is a Revenue?
A revenue is any type of financial income generated by the business.
There are two main types of revenues: operating revenues and non-operating revenues.
Operating revenues come from the main activity of the business and are typically the related to the sales of the products and services that the business supplies. Revenue generated by the sale of different products and service can be sorted into different revenue accounts if the business owner or manager wants to see how different products and services are selling.
Non-operating revenues are other revenues the business earns, but from sources that are not related to its main activity. Common types of non-operating revenues are investment interest income and rent income.
What is an Expense?
An expense is anything paid out in order to operate the business.
Unlike revenues, there is not normally a split between operating expenses and non-operating expenses – all expenses relate to the operation of the business. The most common types of expenses in a business are rent, employee’s salaries, office supplies, telephone, insurance and professional fees.
The Difference Between an Asset and an Expense
It is important to understand the difference between purchasing an asset and paying an expense.
When you pay an expense, you are generally paying for something that the business consumes completely, typically things that you pay for month after month.
When purchasing an asset, on the other hand, you are generally buying something with on-going value or something that will serve your business for many months or years to come. When you purchase a vehicle, for example, you don’t expense the entire cost because the vehicle will serve the business for many months.
Assets do hit your income statement, however, because in many cases the value of an asset will decrease over time and as it is used in servicing the business. The amount that the asset decreases by is shown as a depreciation expense. Depreciation expenses are used to offset the decreasing value of assets the business uses to generate income.
Vehicles, computer equipment and production equipment are three common business assets that are depreciated over their service life to reflect their declining values.
Do You Need a Bookkeeper?
Your income statement is just as important to your business as your balance sheet, because it tells you about the financial performance of your business over a given time period. In some ways it is more important than your balance sheet, because while you might have a healthy balance sheet, if your business isn’t running profitably then it’s only a matter of time until you burn through your assets and then your business will be in trouble.
If you’re not comfortable looking at and understanding your income statement, it might be time to consider hiring a bookkeeper. A bookkeeper can help manage the day-to-day finances of your business and keep you in full compliance with CRA, but can also help a business owner or manager understand the finances of the business.
The Bottom Line
An income statement shows the revenues earned by your business and the expenses paid, with the difference being the net profit or net loss. Unlike a balance sheet, an income statement describes business activity for a period of time. Generating an income statement is part of your year-end financials but you should look at them more frequently – on a quarterly or even monthly basis – to see how your business is performing from a financial standpoint so you can address any issues as soon as they arise.
Simply Bookkeeping1 provides professional bookkeeping services for freelancers, solopreneurs and owners of unincorporated and incorporated businesses. We customize our services based on your needs – we only see some of our clients a few hours a month but others we see on a more regular basis. Our services are reasonably priced and we tightly track the amount of time we spend working for you so you only pay for the services you get.
To learn more about us, please visit our website at www.simplybookkeeping1.com or contact Michele Hyde by phone at (647) 668 – 9363 or by email at michele@simplybookkeeping1.com.
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