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The Income Statementby Binam Ghimire

Learning Objectives

1. Gross Profit and the Trading Performance2. Net Profit 3. The Recognition of Items in the Income Statement4. IAS1 Presentation of the Income Statement5. Analysis of Performance

Introduction

As we have previously stated:

Performance is the ability of an enterprise to earn a profit on the resources that have been invested in it.

The IFRS Framework states that information about performance is primarily provided in an Income Statement

Let’s start by looking at a very simple example…

Income Statement of F Clothes UK for the year ending 31st December 20xx. Sales 160,000Less Cost of Goods SoldOpening Inventory 15,000+ Purchases 75,000

90,000 less Closing Inventory 10,000 80,000 Gross Profit 80,000Less Expenses

Wages 50,000Admin Expenses 12,000Rent 10,000Electricity 3,000Gas 2,000 77,000

Net Profit 3,000

What does this tell you about the company ?

Performance Evaluation

they are able to sell goods profitably their Gross Margin is 50%, i.e. Gross Profit as a

percentage of Sales:Gross Profit X100 = 80,000 x 100 =

50%Sales 160,000

indicating that what they bought for £80, they were able to sell for £160, a 100% mark up.

Not bad, they either buy well or sell well, which is what the Gross Margin and Gross Profit examine - the companies trading performance

the business generate a Net Profit, let us say a profit after all expenses, of £ 3,000 and a Net Margin of 1.875%:

Net Profit x 100 = 3,000 x 100 = 1.875%

Sales 160,000 Clearly expenses and in particular Wages eat up

most of the trading (Gross) profit. Whether 1.875% is good or bad depends the

previous years performance, the type of business and who is receiving the wages !

Income Statement Definitions

Income. Income is increases in economic benefits

during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants.

Expense. Expenses are decreases in economic benefits

during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relating to distributions to equity participants.

Income The definition of income encompasses both revenue and

gains. Revenue arises in the course of the ordinary activities of

an enterprise and is referred to by a variety of different names including:sales, fees, interest, dividends, royalties and rent.

Gains represent other items that meet the definition of income and may, or may not, arise in the course of the ordinary activities of an enterprise. Gains represent increases in economic benefits and as

such are no different in nature from revenue. Hence, they are not regarded as constituting a separate element in the IASC Framework.

Expenses

The definition of expenses encompasses losses as well as those expenses that arise in the course of the ordinary activities of the enterprise. Expenses that arise in the course of the ordinary

activities of the enterprise include, for example, cost of sales, wages and depreciation.

They usually take the form of an outflow or depletion of assets such as cash and cash equivalents, inventory, property, plant and equipment.

Losses represent other items that meet the definition of expenses and may, or may not, arise in the course of the ordinary activities of the enterprise. Losses represent decreases in economic benefits and as such they are no different in nature from other expenses. Hence, they are not regarded as a separate element in this Framework.

Recognition of the Elements of Financial Statements

Income when an increase in future economic benefits

related to an increase in an asset or a decrease of a liability has arisen that can be measured reliably.

this means, that recognition of income occurs simultaneously with the recognition of increases in assets or decreases in liabilities (for example, the net increase in assets arising on a sale of goods or services or the decrease in liabilities arising from the waiver of a debt payable).

Expenses when a decrease in future economic benefits

related to a decrease in an asset or an increase of a liability has arisen that can be measured reliably.

this means, in effect, that recognition of expenses occurs simultaneously with the recognition of an increase in liabilities or a decrease in assets (for example, the accrual of employee entitlements or the depreciation of equipment).

Recognition of the Elements of Financial Statements

IAS 1 Presentation of Financial Statements

The Income Statement Minimum Income Statement Items (a) revenue; (b) finance costs; (c) share of the profit or loss of associates and joint

ventures accounted for using the equity method; (d) a single amount comprising the total of (i) the post-

tax profit or loss of discontinued operations and (ii) the post-tax gain or loss recognised on the disposal of the assets or disposal group(s) constituting the discontinued operation; and;

(e) tax expense; and (f) profit or loss. (i) profit or loss attributable to minority interest; and (ii) profit or loss attributable to equity holders of the

parent.  

Additional line items may be needed to fairly present the enterprise's results of operations

Extraordinary Items No items may be presented on the face of the income

statement or in the notes as "extraordinary items".  If Material..

Certain items must be disclosed either on the face of the income statement or in the notes, if material, including:

(a) write-downs of inventories to net realisable value or of property, plant and equipment to recoverable amount, as well as reversals of such write-downs; (b) restructurings of the activities of an entity and reversals of any provisions for the costs of restructuring; (c) disposals of items of property, plant and equipment; (d) disposals of investments; (e) discontinuing operations; (f) litigation settlements; and (g) other reversals of provisions

IAS 1 Presentation of Financial Statements

Expenses Expenses should be analysed either by nature

(raw materials, staffing costs, depreciation, etc.) or by function (cost of sales, selling, administrative, etc.) either on the face of the income statement or in the notes.

If an enterprise categorises by function, additional information on the nature of expenses -- at a minimum depreciation, amortisation, and staff costs -- must be disclosed.

IAS 1 Presentation of Financial Statements

Example

Let’s examine Exhibit 2.2

What does it show ?

Before we leave this session take a look at the Income Statement of Tesco what does it show ?

Calculate their Gross Margin & Net Margin

Gross MarginGross Profit X 100 = 5,060 x 100 = 8.3%Sales 60,931

Net Margin (after Tax)Net Profit X 100 = 2,671 x 100 =

4.4%Sales 60,931

Good or Bad ?

Summary

Performance is the ability of an enterprise to earn a profit on the resources that have been invested in it.

The IFRS Framework states that information about performance is primarily provided in an Income Statement

The Performance can (in part) be analysed with reference to the Gross and Net Margin BUT these differ depending upon the nature of the business

In fact, the whole financial statement can differ as we shall now see…

Common Size StatementsIncome Statement

Company 1 2 3 4 5 6 7 8 9 10 11 12 13

Profit Statement 

                         

Sales Revenue   100%

100%

100%

97.8%

16.2%

    100%

83.9%

     

Service & Other revenue

100%

      2.2%

83.8%

100%

100%

  16.1%

100%

100%

100%

Total Revenue 100%

100%

100%

100%

100%

100%

100%

100%

100%

100%

100%

100%

100%

Cost of goods Sold

  58.9%

69.2%

57.2%

16.9%

12.2%

    61.4%

78.1%

     

Operating Expenses

96.4%

33.0%

20.2%

29.7%

33.3%

67.8%

78.9%

85.9%

11.8%

11.7%

23.7%

77.9%

30.0%

Research & Development

        12.5%

          53.1%

   

Interest     0.9% 0.8%   1.8% 1.9% 3.0% 4.2% 6.7%   17.6%

47.5%

Tax 1.3% 3.2% 3.6% 5.3% 11.9%

6.7% 7.0% 4.8% 8.0% 1.2% 1.5% 1.5.%

8.1%

Total Expenses 97.7%

95.1%

93.9%

93.0%

74.6%

88.5%

87.8%

93.7%

85.4%

97.7%

78.3%

97.0%

85.6%

Net Income 2.3% 4.9% 6.1% 7.0% 25.4%

11.5%

12.2%

6.3% 14.6%

2.3% 21.7%

3.0% 14.4%

Common Size StatementsBalance Sheet

Balance Sheet

1 

2 3 4 5 6 7 8 9 10 11 12 13

Fixed Assets

3.5 9.1 40.1 41.9 23.1 60.0 123.9 125.8 136.1 21.1 23.8 118.8

15.5

Stock   17.2 22.4 13.0 3.4 22.6 2.1 1.9 0.6 5.1      Debtors 12.7 0.4 1.2 8.3 9.0 15.9 0.9 12.3 4.2 111.7 21.2 3.6 520.0Cash & Securities

9.3 2.3 10.0 0.3 61.0 25.8 4.1 0.4 2.5 18.8 181.1

  528.6

Other Assets

2.2 2.3 3.7 17.9 4.9 10.5 4.9 9.3 19.1 25.6 11.0 273.4

57.1

Total Assets

27.7 31.5 77.4 81.8 101.4 134.8 135.9 149.9 162.5 182.3 239.1

397.8

1121.1

Current Liabilities

8.0 10.5 26.1 23.3 15.0 32.4 9.6 32.5 14.9 135.5 21.3 101.3

984.5

Long Term Debt

    9.1 4.8   27.4 39.4 32.5 47.1 6.5   238.4

44.2

Other Liabilities

  0.6 2.6 13.3   17.3 8.2 44.1 13.8 24.8     10

Shareholder Equity

19.7 20.4 39.6 40.4 86.4 37.7 58.7 40.8 84.7 15.5 217.8

58.1 82.5

  27.7 31.5 77.4 81.8 101.4 134.8 135.9 149.9 162.5 182.3 239.1

397.8

1121.1

Kelly Services 1 Lands End 2 ToysRUs 3 Hershey Foods Corp 4 Microsoft 5 Walt Disney 6 Circus Circus 7 Burlington. 8 McDonalds 9   Ford Motor Company 10 Biogen 11 Tele-communications 12 J.P. Morgan 13