How To Analyze an Income Statement

Analyzing your income statement need not be a great burden, provided that you know the key factors that you should look out for. Here are some of the tips and guidelines to help you out when it comes to analyzing your income statement:

  • Know what the income statement should reflect. In simplest terms, the income statement should be able to show in numbers whether the company made money or not. Some of the basic things that an income statement reflects are the following: the revenue (or the gross income), the earnings (the net income), and the earnings per share (the income divided by the shareholders). The income statement should also show a comparison between different fiscal years (the current year and the previous two years) so that readers would easily be able to see the increase or decrease in expenses and income.
  • Consider the trending in the earnings versus expenses. While analyzing the income statement, you should see how the earnings have done compared with the rate of expenses; how much percentage has risen with regards to the earnings versus the expenses? Is the company's income keeping up with the rate at which the cost of materials and expenditures are rising? Here's one formula to remember: operating expense divided by the net sales. The lower the quotient, the better the company is performing. Compute the quotient throughout different years (the current one versus at least the previous two years) and analyze the trending. 
  • Consider the company's return on investment. Yet under formula to take note of is this: net income plus interest expense, divided by the total average assets. The ratio will reflect the company's return on investment: the lower the ratio, the better the company is able to use their available resources at maximum effect. 
  • Consider the items under the operating expenses. Find out the main bulk of the company's expenses. Is the amount warranted? Is there any way that this could realistically be reduced? Find out ways that you could cut down on costs by devising smarter systems and procedures, or by looking into alternative options, such as changing your suppliers or finding more economical strategies for marketing and advertising. To better aid you on your analysis of the operating expenses, you might want to look into the detailed reports of each department, to better see how the company's money is being spent.
  • Consider the price per earnings ratio (P/E ratio). To compute for the P/E ratio, you'd have to divide the market selling price of the stock by the actual earnings of the stock. For example, a stock's market selling price is $30, and it is currently earning $3 per share: in this case, the P/E ratio is 10. The higher the P/E ratio, the better the company is generally performing. 

Remember, it literally pays to know how to extensively analyze an income statement so that you would be able to gauge the general health of a company. Take the time to learn of other techniques in order to bring about positive changes to your company's performance. Good luck! 


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