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Income Statement Review. Income Statement Basics. Income statement explains changes in retained earnings: RE YE ’02 = RE YE ‘01 + NI In ‘02 - Dividends In ’02 Net Income In ‘02 = Revenue In ‘02 - Expense In ‘02. Retained Earnings is a permanent account

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Income Statement Review

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Income statement review

Income Statement Review

Income statement basics

Income Statement Basics

Income statement explains changes in retained earnings:

REYE ’02= REYE ‘01 + NIIn ‘02 - DividendsIn ’02

Net IncomeIn ‘02 = RevenueIn ‘02 - ExpenseIn ‘02

Income statement review

  • Retained Earnings is a permanent account

  • Net Income, Revenues and Expenses are temporary accounts

    • get folded into retained earnings at period-end

    • keep track of net income during the period

    • begin and end the period with zero balances

Net income and cash flows

Net Income and Cash Flows

  • Over a long enough period net income = cash from operations + cash from investing

  • Therefore, the only issue is timing

Revenue recognition

Revenue recognition

  • Have performed all (or a substantial portion) of your service

  • Have received an asset (e.g., cash or receivable) which can be measured

  • Amount is adjusted up front for bad debts, sales discounts and allowances, etc.

  • Most common source of fraud

Expense recognition

Expense recognition

  • Generally involves transforming an asset (stock) to an expense (flow)

  • Match to revenue if possible (e.g., product cost)

    • Merchandising--cost of acquiring inventory

    • Manufacturing--cost of making product (including overhead)

Income statement review

  • Otherwise charge to expense as consumed (e.g., SG&A and R&D)

  • Measured on same basis as the asset being expensed.

Income statement format

Income Statement Format


-Cost of Goods Sold

Gross Profit

-Selling, General and Administrative Expense

Operating Income

+/-Interest Expense/Income

+/-Other Income, Gains, Expenses, Losses, etc.

Pre-Tax Income from Continuing Operations

-Income Tax Expense

Net Income from Continuing Operations

Income statement review

+/-Income/Loss from Operations of Businesses Sold (net of income tax)

+/-Gain/Loss on Business Sold (net of income tax)

Income from Discontinued Operations

+/-Extraordinary Gains/Losses (net of income tax)

+/-Cumulative Effect of Accounting Change


Earnings per share

Earnings Per Share

  • Basic EPS = Net Income to Common / Ave. Number of Common Shares Outstanding

  • For Coke, $3,050M Net Income / 2,478M Common Shares = $1.23

  • Diluted EPS takes into account securities convertible into stock (e.g., stock options)

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