Measuring and Reporting Financial Performance

Introduction to Measuring and Reporting Financial Performance

The Income Statement

In the earlier sections we referred that the statement of financial position (balance sheet). We describe that it sets out the wealth of a business and who contributed that wealth, at a specific moment in time. Though, it is not generally sufficient for users of financial statements to contain information that relating only to this aspect of financial health. Businesses available for the main purpose of producing wealth, or profit, and it is the profit produced throughout a period that is the concern of several users. The major aim of the income statement - or profit and loss account, because it is occasionally called - is to measure and report how much profit (wealth) the business has produced over a period. It also assists users to increase some impression of how that profit was made. Like with the statement of financial position that we examined in earlier chapter, the principles of preparation are similar irrespective of whether the income statement is for a sole proprietorship business or for a limited company.

The measurement of profit needs that the total revenue of the business that produced during a specific period be identified. Revenue is just a measure of the inflow of economic advantages occurring from the general activities of a business. These advantages will result in either an increase in assets (like cash or amounts owed to the business through its customers) or a decrease in liabilities. Dissimilar forms of business enterprise will produce dissimilar forms of revenue. Some instances of the dissimilar forms that revenue can take are as follows:

  • Sales of goods (for instance, by a manufacturer)
  • Fees for services (for instance, of a solicitor)
  • Subscriptions (for instance, of a club)
  • Interest received (for instance, on an investment fund).

The total expenses that are relating to each period must also be recognized. Expense is actually the opposite of revenue. It demonstrates the outflow of economic advantages taking place from the general activities of a business. This loss of advantages will result in either a decrease in assets (like cash) or an increase in liabilities (like amounts owed to suppliers).

Expenses are acquired in the process of generating or attempting to produce revenue. The nature of the business will once more determine the kind of expenses that will be acquired.

Instances of some of the more general types of expense are:

  • The cost of buying or making the goods that are sold throughout the period concerned -termed as cost of sales or cost of goods sold
  • Salaries and wages
  • Rent and rates
  • Motor vehicle running expenses
  • Insurance
  • Printing and Stationery
  • Heat and Light
  • Telephone and Postage.

The income statement basically depicts the total revenue produced during a specific period and deducts from this the total expenses acquired in generating that revenue. The variation among the total revenue and total expenses will demonstrate either profit (if revenue goes beyond to the expenses) or loss (if expenses go beyond to the revenue).

So, we have:

Profit (or loss) for the period = Total revenue for the period - Total expenses incurred in generating that revenue

The period on which profit or loss is generally measured is usually termed as the accounting period, but it is occasionally termed as the 'reporting period' or 'financial period'.

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