A Step-by-Step Guide to Preparing an Income Statement
Making an income statement should be a skill for any small business because it will help keep financial details up to date. Creating financial statements includes specific information about a company’s earnings and outlays for a given time frame. Not all stakeholders will be present within your company, but many will require these regularly to monitor how your business is doing. Anyone, from government employees to outside service providers to stockholders and shareholders, could regularly need them.
Therefore, in this article, we will be sharing a step-by-step guide to preparing an income statement, defining the uses and significance of having an income statement, and much more. Let’s dive into the details.
What is an Income Statement?
An overview of a company’s revenue and expenses during a specific time frame is known as an income statement.
The contents of the income statement may differ depending on the type of business, but there are some standard components. A report may become distorted if any of them are skipped.
- Revenue: Sum of money you receive.
- Expenses: This represents the money spent.
- COGS: The money you have spent on your goods or services is your cost of goods sold or COGS.
- Earnings per share (EPS): Net income divided by the number of outstanding business shares.
- EBITDA: Your interest before taxes, interest, depreciation, and amortization.
Uses and Significance of an Income Statement
Income statements assist entrepreneurs in determining whether they can turn a profit by raising sales, cutting expenses, or doing both at once. They also enable businesses to make significant changes to optimize profit by displaying the results of strategies set at the start of a fiscal period.
Management can make defensible decisions by using income statements. A thorough income statement may result in business growth, increased sales, higher production capacity, more efficient asset sales, or the closure of a particular division, undertaking, or product line. Businesses can also learn about a company’s success and how they allocate their time and resources to different areas of focus by looking at the income statements of their competitors.
9 Steps to Write an Income Statement
Understanding what is included in income statements is the first step towards preparing one. All of the calculations and component parts are required. Let’s look at all nine steps required to write an income statement.
1. Select the Time for Reporting
Select an appropriate reporting period for your income statement. Periods of one year, three months, or four quarters are typical. The one you select should be in line with your particular objectives. If you want monthly reports, it can provide information on short timeframes. This will help your business in the next month. On the other hand, longer reports provide high value and an overview of long-term plans.
2. Create a Report on the Trial Balance
Print a copy of your standard trial balance report to understand how to create a business income statement. Your accounting software should allow you to create a trial balance. The end balances of each account in your general ledger for the specified reporting period are listed in these internal documents. Since these balance sheets account for data from account balances, creating them is essential to creating an income statement.
3. Determine Your Revenue
You must ascertain the revenue your business made during the selected reporting period. Revenue from each line of business must be included in your income statement if it is to represent the entire company. Alternatively, you must restrict your revenue to services or goods that genuinely fall under that jurisdiction if you create an income statement for only one business line or segment.
4. Calculate the Cost of Sold Goods
Components, parts, materials, direct labor, and distribution costs are all included in the costs of goods sold for any goods and services that bring in money. These particular costs must be clearly connected to producing the goods that generate revenue for you.
5. Determine Your Gross Margin
Calculating the gross profit for your chosen reporting period is simply deducting the cost of the goods you sold from the revenue of your business.
6. Factor in Operating Costs
Once you know your gross profit, you can compute your operating expenses or OPEX. These are typically indirect expenses related to conducting business in general. They differ from the cost of goods sold because they aren’t directly related to the particular procedure for producing or delivering your goods or services. Specific costs that may be included in your operating expenses category are rent, utilities, overhead, office supplies, and legal fees.
7. Determine Your Income
Simply deduct your operating expenses from your gross profit to determine your business’s income. This represents the pre-tax income your business made during the specified reporting period.
8. Don’t Forget about Income Taxes
After determining your income for the assigned reporting period, you must determine your tax obligations and interest. Simply put, interest is assessed when your company settles outstanding debts. This entails being aware of your debt balance and the relevant interest rate. If you have the appropriate accounting software, you can automate this. Your total tax burden must include payroll, state, local, and federal taxes for the reporting period. This covers all taxes — local, state, federal, and payroll taxes included.
9. Complete the Income Statement
Include the profit and loss reporting period and your company’s details. You have a precise statement now that you have gathered all the information.
Tips to Make Your Income Statements Better
There are various reasons why financial reporting needs to be accurate. The amount of money your business is making or losing is what you want to know. Income statements are useful even for small private businesses without any shareholders who are members of the general public. Public corporations and larger businesses must answer to regulatory agencies and investors. Errors in that area are expensive.
Being a business owner, you have the ability to enhance the quality of your income statements and other financial records. You can invest in appropriate tools to monitor sales income, and computing obligations is a crucial area of attention. Another is to find the right people to prepare your reports.
If you would like to enhance your income statements, we recommend taking the following three actions:
1. Make Use of Automation
Connect your accounting software and our platform’s expense tracking through automation and API technology. You can avoid errors and save work hours by using this error-free data flow on the platform to create your income statement instead of manually entering the data.
2. Make Use of Tools for Financial Management
Using contemporary financial management tools, you can track your spending, organize your expenses, and make growth and expansion plans. Additionally, they can assist you in monitoring cash inflows and outflows in real-time, a crucial function when performing accrual accounting.
3. Financial Reporting by Accountants
You can hire an accountant to handle your financial reporting accurately and with no worries.
Final Words
Accounting experts shouldn’t be the only ones who can create an income statement. Acquiring this skill allows anyone to comprehend their business’s finances more deeply. Make short-term adjustments for shorter reporting periods using an income statement or long-term trends to identify a long-term strategy.
We hope this step-by-step guide will help you prepare an income statement for your business.
Frequently Asked Questions
- What is the purpose of an income statement?
- An income statement helps to determine a company’s profitability by showing the revenue and expenses for a specific period of time.
- What components should be included in an income statement?
- An income statement should include revenue, expenses, cost of goods sold, earnings per share, and EBITDA.
- Why is it important to prepare an income statement?
- Preparing an income statement allows businesses to evaluate their financial performance and make informed decisions for improvement.
- How often should an income statement be prepared?
- An income statement can be prepared on a monthly, quarterly, or yearly basis, depending on the reporting needs of the business.
- Can an income statement be used for forecasting future financial performance?
- Yes, an income statement can be used as a basis for projecting future revenue and expenses, helping businesses plan for growth and profitability.
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