What is an Income Statement and Why Is It Important? (2024)

Every business maintains three types of Financial Reports or statements that summarize the performance of the company. The income statement is one of the three critical financial reports of a business. The other two being the balance sheet and cash flow statement.

This article will detail out everything you need to know about the income statement - from the definition of what an income statement is, to the reasons why businesses need to prepare an income statement.

Table of Contents:

  • What Is an Income Statement?
  • Why Is the Income Statement Important?
  • Uses of an Income Statement
  • Understanding the Income Statement
  • Types of an Income Statement
  • How to Make an Income Statement

What Is an Income Statement?

In addition to the balance sheet and cash flow statement, the income statement is also part of the financial statements prepared by all organizations.

The purpose of an income statement is to provide financial information to investors, creditors, and readers, whether the company is profitable during the financial year.

In the context of corporate finance, the income statement is the record of the company's profit and loss over the financial year. The company's net profit is derived by deducting the total revenue from all the expenses incurred for operating and non-operating activities.

Investors, accountants, and business owners regularly review an income statement to see if they are on track for its expected target. An income statement is examined to identify a specific strategy's shortcomings and nudge it in the right direction.

There are various monikers associated with the income statement, such as:

  • Profit and Loss Statement
  • Statement of earnings
  • Statement of income
  • Revenue statement
  • Statement of operations

All these income statement terms mean the same thing, and it's often used interchangeably. However, the Profit and Loss Statement is still the most popular term used by most financial professionals.

Do you wish to find out more about the income statement? Check it out here to find out how different industries in the market prepare their income statements.

Why Is the Income Statement Important?

In the corporate world, preparing an income statement is a monthly, quarterly, and even yearly affair.

Here are some great reasons why preparing an income statement is such a crucial task in every organization regardless size:

  • Assist in better decision making - Reading the income statement enables the business owners to be aware of the current financial footing of the company. With the accurate figures presented on the income statement, business owners can make swift and wise decisions about the company's expenditure.
  • Track the company's profitability - With an income statement, it provided the business owner, the shareholders, and stakeholders the knowledge of the company's financial standing.
  • Essential report for compliance - Operating your business in a country means companies will have to bear the various forms of business taxes, following the tax regulations of that country. Paying business taxes is mandatory by law. To calculate your tax liability, the income statement, and other financial statements (balance sheet and cash flow statement) will help a lot in providing the necessary financial data you will need.

Uses of an Income Statement

There are several uses of an income statement though the primary purpose is to convey a business's profitability and activities. It provides micro insights if created for departments within a company.

Based on the income statement, management and investors can decide on the strategy of a particular product or department or the entire company. While a yearly income statement gives an idea of the annual plan to be placed for the next year, monthly and quarterly reports can make it easier for a short term change in strategy.

Based on an income statement, key decisions such as increasing production capacity, pushing sales, targeting a new audience, or shutting down and opening a new department can be taken.

Research analysts use an income statement to compare the quarter-on-quarter and year-on-year performance of a company. Investors can also know if the management has been able to keep a tab on overhead operating expenses without compromising productivity.

Understanding the Income Statement

When it comes to a company's financial health, an income statement is one of the most important documents. The three main components of an income statement are-

  • Revenue
  • Expenses
  • Profit

There are two ways in which businesses can prepare their income statements

Types of an Income Statement

Single-step income statement

It is a basic report of a company's profit prepared using a single equation to calculate net income.

Net Income = (Revenues + Gains) – (Expenses + Losses)

Multi-step income statement

It calculates the net income using a three-step process.It separates operational revenues and expenses from non-operational ones

Gross Profit= Net Sales - Cost of Goods Sold
Operating income = Gross Profit - Operating Expense
Net Income = Operating Income + Non Operating Items

Here is a real example of Amazon’s income statement, for the years ended December 31, 2015 – 2017.

What is an Income Statement and Why Is It Important? (1)

Any income statement template will consist of the below items:

  • Revenue:An organization's income or the money that your business brought in within a specific period of time

  • Expenses: An organization's outflow of cash. Expenses are broadly divided into two parts cost of sales/ COGS and SG&A

    1. Costs of Goods Sold (COGS): The direct costs of producing goods that the company sells
    2. SG&A- The selling, general, and administrative expenses that your business incurs
  • Gross profit: The profit a company makes after deducting the COGS with the revenue

  • Operating income: The income of the company after subtracting gross profit from operating expenses (including COGS, wages, and depreciation).

  • Income before taxes: Income before taxes are calculated

  • Net income: Income left after deducting all costs, expenses, and taxes

  • Earnings Per Share (EPS): Division of net income by the number of outstanding share

  • Depreciation: The decreased value of an asset within a defined period

  • EBITDA: Earnings before interest, depreciation, taxes, and amortization

The above items can further be divided into different categories. For example, expenses can be broken down to wages, interest paid on debt, procurements costs, and wages. The chart below shows a detailed breakdown of Income statement.

What is an Income Statement and Why Is It Important? (2)

You can download free Income statement templates of businesses like manufacturing, merchandising etc from the Deskera page.

How to Make an Income Statement

Let's take a look at how to create an income statement.

Follow the steps given below and add them to a sheet to create a basic template.

What is an Income Statement and Why Is It Important? (3)

1. Reporting period

To prepare an income statement, we begin by determining a specific period for the income statement. The period can be in the form of a monthly, quarterly, or annual basis. Public traded companies usually have a yearly income statement, while smaller ones tend to create a monthly or quarterly report.

2.Trial balance report

Once you identify the reporting period for your income statement, you will need a trial balance report. That report will give you the end balance of each account and the figures required to prepare an income statement.


After you have the balance report, you will now need to calculate your total sales revenue. The total revenue will include all of your business's income, even the payments which haven't been received yet. Add everything, and you will get your revenue.


The Cost of Goods Sold is determined by adding up direct labor, overhead expenses, and materials. Add the total cost of goods sold to your sheet

5.Gross Profit

Subtract the COGS from your revenue, and you will have a gross profit figure.

6. Operating expense

Add up all your operating expense costs mentioned in the balance report and enter it in your sheet.

7.Income before taxes

Subtract your selling and administrative expenses from gross profit to determine your income before taxes.

8. Net income

Subtract your gross profit with all expenses, including wages, taxes, and COGS. Net income is obtained after that.

Congratulations! Your basic income statement is ready. You can read income statement for small businesses on the Deskera blog to get a deeper understanding on this subject.

The Bottom Line‌

‌A balance sheet, cash flow statement, and annual report with income statements help an individual determine the future financial trajectory of a business and its value and efficiency.‌‌

Analysis of an income statement can reveal if the sales are improving, the cost of goods sold is falling or if the return on equity is rising. If you are planning to invest in a company, an income statement will be one of the most critical documents you need to evaluate.‌

Learning to read, understand, and knowing how to create an income statement enables you to make informed decisions about a company or business. To make things easier, it is good to invest in cloud accounting software like Deskera to automate your business processes. With a solution like Deskera, all the income statement accounts will be auto-populated based on the system's business activities, making the process error-free and more uncomplicated.

Visit Deskera's website today to find out more about Deskera's accounting products. You can even sign-up for a 30-day free trial.

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What is an Income Statement and Why Is It Important? (2024)


What is an Income Statement and Why Is It Important? ›

An income statement is a financial statement that shows you the company's income and expenditures. It also shows whether a company is making profit or loss for a given period. The income statement, along with balance sheet and cash flow statement, helps you understand the financial health of your business.

What are income statements and why are they important? ›

An income statement is one of the three major financial statements, along with the balance sheet and the cash flow statement, that report a company's financial performance over a specific accounting period. The income statement focuses on the revenue, expenses, gains, and losses of a company during a particular period.

What is the purpose of the income statement to summarize? ›

Also known as profit and loss (P&L) statements, income statements summarize all income and expenses over a given period, including the cumulative impact of revenue, gain, expense, and loss transactions.

Why are income statements important to employees? ›

The benefit of financial statements for employees of a company is to find out the company's ability to pay salaries. With the presence of stable financial reports, the employees of the company will certainly have more confidence.

Why is a personal income statement important? ›

Why is a personal financial statement useful? This statement is a tool that can be used to analyze your current financial status, enabling you to track net worth and set financial goals. These statements are often reviewed by lenders when a client applies for credit or a loan, including a mortgage.

What is most important on an income statement? ›

Revenues—The Top Line

Revenue represents the value of the goods and/or services delivered to customers over the reporting period. Revenues constitute one of the most important lines of the income statement.

What is the most important line of the income statement? ›

The top line and bottom line are two of the most important lines on the income statement for a company. Investors and analysts pay particular attention to them for signs of any changes from quarter to quarter and year to year.

What is the basic income statement? ›

The basic income statement shows how much revenue a company earned (or lost) over a specific period (usually for a year or some portion of a year). An income statement also shows the costs and expenses associated with earning that revenue. Another term for an income statement is a profit and loss statement.

Is an income statement the same as profit and loss? ›

P&L is short for profit and loss statement. A business profit and loss statement shows you how much money your business earned and lost within a period of time. There is no difference between income statement and profit and loss.

What are the three parts of an income statement? ›

The income statement presents revenue, expenses, and net income.

What are the limitations of an income statement? ›

The limitations of income statement are as follows: Income is reported based on the accounting rules and does not represent the actual cash changing hands. There will be variation in the way inventory is calculated (either FIFO or LIFO) and therefore income statements cannot be compared.

What is the purpose of the income statement Quizlet? ›

The purpose of the Income Statement is to report the net income or loss for a fiscal period. Letter a refers to the balance sheet. Letter b refers to the trial balance.

Do you need an income statement? ›

The most obvious benefit of income statements is that they provide insights into your company's financial health. That's why they're an ideal document to present to investors, lenders, and creditors. Essentially, you'll need them when you want to expand your business capital down the line.

Can I do my own financial statements? ›

There is no definition for this, so if you have basic accounting knowledge you can prepare your own Income Statement and Balance Sheet, sign it and submit to SARS. You don't need AFS that have been prepared by a professional accountant.

How to find out someone's financial status? ›

You may want to contact financial institutions such as pension and insurance companies to find out more information about assets your loved one may have kept with them, plus locate any safe-deposit boxes.

What are the three main income statements? ›

The income statement, balance sheet, and statement of cash flows are required financial statements. These three statements are informative tools that traders can use to analyze a company's financial strength and provide a quick picture of a company's financial health and underlying value.

What is the main purpose of each of the three main financial reports the income statement the balance sheet and the cash flow statement? ›

The income statement illustrates the profitability of a company under accrual accounting rules. The balance sheet shows a company's assets, liabilities, and shareholders' equity at a particular point in time. The cash flow statement shows cash movements from operating, investing, and financing activities.


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