Unit 4 Income Statements

Statement of Cash flows Business Analysis Balance Sheet Income Statement Feasibility Liquidity Repayment Capacity Profitability Financial Efficiency Risk Solvency Statement of Owners’s Equity

Income Statement Definition: A summary of income and expenses for a given period of time.

Uses of the Income Statement  Reporting income and expenses on tax returns  Required on loan applications  Financial analysis of business  Explain changes in Owner’s Equity

Reporting Income and Expenses  Cash Method  Accrual Method

Cash Method  Income must be reported in the year the cash, or its equivalent is received.  Deductions for expenses are made in the year that the cash is paid out.

Cash method- Advantages  Flexibility- choose when to take income and deduct expenses.  More favorable capital gains tax treatment than accrual method.  If business shows a profit, cash is available to pay the income tax.

Cash Method- Disadvantages  Expenses are not deductible until cash is paid.  Inventory adjustments must be made to compute an income statement and analysis information.  Income reported is more erratic.

Cash Transactions  Cash Revenue  Cash Expenses-summary and coded  Depreciation  Gain or Loss on Sales of Capital Assets- Capital Gains/Losses

Cash Income Statement  Do Assignment #1---Cash Income Statement for GYFS  Information on Website  Create a new page in your Excel spreadsheet assignment file.

Accrual Method  Inventories must be used to determine gross income. Sales are treated as income when the price of the item is recoverable.  Expenses are deductible when payable.

Accrual Method-Advantages  Levels out peaks and valleys of income without year-end manipulations.  Easier to determine net income and analyze strong and weak points of the business from year to year than with the cash method.

Accrual Method-Disadvantages  very detailed and complex records are required.  Inventory must be valued by an approved IRS method.  In some years profit may only appear on paper, and money may have to be borrowed to pay income tax.  Difficult to determine actual cash position of the business.

Variable Costs  Costs that vary with production levels

Fixed Costs CCosts that remain constant with changes in production

Analysis  Operating ratio=  Fixed ratio=  Gross ratio=