Continuing our discussion of the basic financial statements, although in very simplistic forms, we now give you a glance at the main components of the Income Statement. The important thing to note is that unlike the Balance Sheet, which shows values at a certain date in time, the Income Statement is a “flow” statement … that is revealing business activity over a period of time. Usually this period is one or all of the standard accounting periods, a month, a quarter, a year. To continue the horse racing analogy when we compared the Balance Sheet to a photo finish, the Income Statement is the equivalent of a video of the whole race. For the period shown it measures all values received by the business (revenue) regardless of the source. It then measures all business expenses incurred by and required to run the business. The difference between the two is either a positive number (profit) or a negative number (loss).
Depending on the size and complexity of a given business the Income Statement can be quite simple (but more detailed than the above) or quite complex. For instance, a multi-product, multi-division, multi-branch business might structure its Income Statement in such a way that management can easily monitor performance results for each.
As seen above, the arrows are to emphasize the “flow” nature of this statement. Revenues flow in constantly, (the more constant the better!) as do expenses flow out. If there are profits, they are accumulated to support the growth and financial health of the business. But the reason the “Profit” arrow is shown outward bound is that over time the shareholders who own those profits expect to have them returned in the form of dividends or the eventual sale of the business. That is another reason the Capital accounts, including Retained Earnings, are clustered with the Long Term Debt section of the Balance Sheet. In effect, Capital is owed back to the shareholders and they eventually want their money back. Next I will show and comment on a more robust view of the Income Statement.
Douglas K. Steele