TA 1-3

2. The Income Statement

An income statement measures a company’s financial performance between balance sheet dates. It is a representation of the operating activities of a company.

The income statement provides details of revenues, expenses, gains and losses of a company for a time period.

The bottom line, earnings, indicates the profitability of the company.

A. Earnings and Profitability
The income statement includes several indicators of profitability other than earnings.

Gross profit is the difference between sales and “cost of sales”(or “cost of goods sold”)
Earnings from operations refers to the difference between sales and all operating costs and expenses
Earnings before tax represents earnings from continuing operation before the provision for income tax
Earnings from continuing operations is the income from a company’s continuing business after interest and taxes. It is also called earnings before  extraordinary items and discontinued operations.

B. Recognising Earnings (Accrual Accounting)
Earnings are typically determined using the accrual basis of accounting.

Under accrual accounting, revenues are recognised when a company sells goods or renders services, regardless of when it receives cash.

Similarly expenses are matched to these recognised revenues, regardless of when it pays cash.

This concept is of particular importance when considering in what period of operations a sale occurs and subsequently when earnings are recognised.