Dr Jennifer Mao：Income Statement
茆懿心博士 Dr Jennifer Mao：Income Statement 损益表
While a balance sheet is a stock-based static statement that presents a company's financial position at a point in time, an income statement is a flow-based dynamic statement that describes a company's operating performance over a period of time. The period covered by an income statement must be clearly specified. The phrase "Income Statement of 30 June 1997" is meaningless unless it is intended to show the revenues and expenses for the single day 30 June 1997.
Historically, the income statement used to be a supporting statement to the balance sheet. Without the income statement, we would record revenue as an increase, and expense as a decrease, of the equity account Retained Earnings. Such transactions are numerous. To simplify the bookkeeping, as well as to provide more useful information, the income statement was born.
Depending on how revenues and expenses are presented, there are roughly two formats of the income statement, the traditional multi-step format and the relatively new two-step format. The former has a few steps: Sales - Cost of Goods Sold = Gross Profit; Gross Profit - Operating Expenses = Operating Income; Operating Income ± Non-Operating Items = EBT (Earnings Before Tax); EBT - Income Tax = Net Income.
Of course whether an item is operating or not depends on the nature of the business. For instance, while Interest Expense may be a non-operating expense for many companies, it is the most important operating expense for banks.
When a company has losses rather than earnings, it does not have to pay income tax. It may also be allowed to carry the loss backward and/or forward, depending on the tax environment the company is in.
Different users of financial statements often have different needs. The multi-step format of the income statement is unlikely to suit all needs. Some American companies took the lead to use the two-step format. In this format, the income statement contains basically two parts. The first part lists all sources of revenues while the second lists all kinds of expenses. A reader can prepare the income statement in any form to suit his purpose.
It must be pointed out that the net income shown in the income statement is an accounting profit, not cash flow. In the computation of accounting profit, cash receipts from selling farecards are not recognised as revenue. Rather, they are "Unearned Revenue" classified under Current Liabilities. Revenue is considered realised only after the bus service is provided and consumed. Similarly, insurance premium paid for any part of the next financial year will not go to the expense in the income statement. Rather, it will appear as Prepaid Expense, an item under Current Assets.
In accounting terminology, the income statement is prepared using the "accrual basis", not the outdated "cash basis". When China in 1994 proclaimed the adoption of the Western accounting system, the switch from the cash basis to the accrual basis was the heart of the change.
(The writer is a resource panellist of SPH's Chinese Newspapers.)
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