 Hello and welcome to the session. This is Professor Farhad in which we would look at the income statement. The income statement is one of the major financial statements along the balance sheet as well as the statements of cash flow. If you are an accounting student or a CPA candidate, especially if you're a CPA candidate, I strongly suggest you check out my website farhadlectures.com. I do not replace your CPA prep course if you are taking better Roger Wiley Glyme or any other course. I can be a useful addition, the most useful addition that's going to help you understand the material so you can pass the exam. If you are an accounting student, I strongly suggest you check out my website for additional material for your accounting courses. Also, if you're a CPA candidate, what I suggest you do is to check out my website. If not for anything, it's for your university CPA score. You want to know how well is your university performing on the exam. I have that by average, overall average, by section and by age group. It's very, very interesting. Also, check out my connect with me on LinkedIn, like my YouTube, subscribe so you'll have access to more material when I post. I post almost on a daily basis. Connect with me on Instagram and Facebook. Let's take a look at the income statement. What goes on the income statement? What figures goes on the income statement? What goes on the income statement? Well, four things mainly go on the income statement. Those are revenues minus expenses plus gains minus losses. Those are the main thing, revenues minus expenses. We talked about gain and losses in chapter two to define them. We're going to look at them again. Let's take a look at the elements and look at each element separately. Although we covered this in a prior session, but it's good to go back and review this. So what is revenue? Revenue is an inflow or other enhancement of assets or settlement of liabilities. So either you increase your assets or you reduce your liabilities. That's a result that constitute the entity's ongoing major central operations. So each company has a different source of revenue. For example, Apple computers, they sell phones, mainly phones, computers, so they're in the sales business mostly. Google, the revenue is ad revenue. Any shop in the mall, they sell sales revenue. For example, a school, they have the tuition revenue. So each business will have a different type of revenue. It depends on what they do. Examples of revenues are sales. Some companies charge us fees. Some companies, if they lend money, they have interest revenue. Some companies, they invest. Some company, they rent. So each company will have a different source of revenue depending on what you do for a living. That's what determines your revenue. For example, you as a student, most probably right now you have a part-time job and that's your revenue. Or a full-time job. It doesn't matter. But that's your revenue. It's what you do. What is your entity ongoing major or central operation? That's how you generate your revenue. Expenses, the definition of expenses are outflow or other using of assets or incurrence of liabilities. So either your asset goes down or your liabilities go up. This is what happened when you incur an expense. Because every time you incur an expense, you debit an expense, you credit an asset, or you debit an expense and credit a liability. This is when you actually incur the asset, when you basically usually you credit cash. And here's when the liability is accrued. This is accrued liabilities. Basically, the expense happened, but you're going to pay for it later. So expenses as a result also of ongoing operation. The result, the entity's ongoing major and central operation. So each company, when they operate, it will be great if you could only generate revenues without expenses. But companies generate various expenses. For example, a merchandiser, they will have something called cost of goods sold. When they buy something, they pay for it. Then when they sell it, it becomes cost of goods sold. If a company has assets, plant assets, they will have depreciation expense. If they borrow money, they'll have interest expense. They might be renting something. They will obviously they will have salaries and wages. They will have employees. They will have taxes. They will have insurance. Any expense that's going to help the company, that's going to help the company do what that's going to help run the company is considered an expense, is considered an expense. Now, another two items that affect the income statements are gains and losses. Again, we talked about this, but I will go through this again. Gains are increases in net asset or increases in equity from peripheral or incidental. Things that happen once in a while, once in a while. So it happens once in a while. So once in a while, you may incur a gain. And basically, what is a gain? It has nothing to do with your ongoing operation. Nothing to do with the ongoing, ongoing or central or central operation. Because if it has something to do with ongoing or central operation, then it's revenue. A good example will be, let's go back to Apple computers. Apple computers might invest in another company. They might buy stocks in another company. They may sell that stock and generate a gain. We don't call it revenue because Apple computers is not in the business of buying and selling stocks. They're in the business of producing phones, computers, and generating revenues from those items. Losses are decreases in net asset or equity. Net asset and equity are the same, also from peripheral or incidental operation. What are some examples of gains and losses? Sale of investments or plant assets. So you sell an investment or you sell one of your plant asset. Settlement of a liability. Sometimes it could be a gain or a loss if you do this every once in a while. So every once in a while, you may pay off your debt. And as a result, you may have a gain or a loss right off of assets. For example, your asset is no longer as good as you thought, then you write it off. When you write it off, you incur a loss because the asset lost value. So it's called a loss. It's not called an expense because when you buy assets, you don't buy assets under the impression that your assets will go back. So those are the four different accounts of the income statement. The next thing we're going to look at, we're going to actually prepare an income statement just to see what it looks like. And again, we're going to be preparing to a great degree, a straightforward income statement before we kind of start to hit more the new items. So format of the income statement. Just the first thing you need to know. Gap allows you to format. It allows us the multiple, multiple step and the single step. So we could prepare the financial statements using two sections, the multiple step and the single step income statement. When we use the multiple step income statement, we're going to have what's called intermediate component. Intermediate component, basically, we're going to have sub components. We're going to have various component within the income statement. So we're going to separate operating transaction from nonoperating. So when we prepare the income statement using the multiple step, we're going to have a section that deals with operating and section that deals with nonoperating, nonoperating. So we're going to separate those. We're going to match cost and expenses with related revenues. So anytime we have cost and revenues that's related, we're going to put them together. We're going to highlight certain components of income that analysts use to assess our financial performance. So basically with the multiple step income statement, what we are doing, we are helping the analyst, we're helping the analyst look at our performance, look at our performance. Now there's a multiple step income statement in your textbook. You could look at it. We're going to look at an income statement shortly. But this is what the multiple step income statement is. But we could have more sections. So common for companies to present some of or all of the following sections and total within the income statement. So the income statement could have something called an operating section. It could have an operating section, nonoperating section. Obviously it will definitely should have an operating section. We'll have an income tax. Then it will have certain items that we did not cover yet and you did not see yet in in your courses unless you are retaking this course. We're going to have an item called discontinued operation, non-controlling interest, and we're going to present earnings per share. Everything that I highlighted in yellow, I will cover later. So this is going to be covered later. Later soon. We're going to cover it here in this chapter, but not in this session. So we're going to look at a company now. We're going to look at the three components that I just highlighted, which will show the operating, non-operating and income tax, and show the intermediate steps for a multiple step income statement. So this is an income statement and basically what it boils down to is revenues minus expenses. So this is an income statement and basically what's going to happen is we're going to look at the various component and analyze, not analyze, just look point out certain items that you should be looking for. For example, in a multiple step income statement, we will show how the company came with net sales. So we would show how the company came with net sales. Let me highlight things in yellow. How we came with net sales, which is sales, $3,053,081 minus sales discount, minus sales returns and allowances, gives us net sales. Then from sales we'll subtract cost of goods sold. Sales minus cost of goods sold gives us an important number that we highlight to investors and to analysts and that's gross profit. So this is an important figure. This is an intermediate component. We are telling the users this is how much we are making after our cost of goods sold. This is important. This is going to help users compare our company to our competitors. Then we are going to list our operating expenses. Again operating expenses means operating section, operating section of the income statement. And we're going to break them into selling expenses and administrative expenses. And selling expenses has to do with anything that helps us sell the product. Like what? Sales salaries and commissions. This is a selling expense. Sales office salaries. Travels and entertainment. Advertising. Freight and transportation out when we ship things to customers. Shipping supplies and expense. Postage and stationery. Telephone and internet expense. This is assuming it's related to the selling effort. Depreciation of sales equipment. So anything that goes into the selling effort, any expense, we list it separately. So all these expenses are selling effort, direct selling effort. So these expenses are incurred to increase our sales to serve the selling. Now the company will also have administrative expenses. Those are expenses that has not directly related to sales. So they are not directly related to sales. So what are they related to? They are related to the overall operation of the company. The officer's salaries, office salaries, legal and professional services, like professional services as accounting services. And again, you need an accountant even if you're selling, if you're not selling or selling the product, you still need somebody to take care of your books to file your income taxes. So accounting is not a selling expense. It's an administrative expense. Utilities expense. Utilities, but this is for non-selling. Insurance expense. You could also have, for example, insurance expense under selling if you are insuring some of the vehicles that you're using in your selling effort or some of the trucks. Depreciation of building. Depreciation of office equipment. Notice stationary supplies and postage. You have them in both. Well, some of the postage and stationary you are using in your selling effort, so they would be listed under selling, and some of it is being used under the administrative effort. So notice the same expense could be in two different places than miscellaneous expense. So now this section here, this is the operating section. Let me delete because I have a lot of stuff. So this is the operating section. And again, this section will take a gross profit minus selling and administrative expenses gives us income from operation. Once again, this is an important number because this tells us if the company is operating their business and they are making profit from their central ongoing operation. So when I say, when we use the word central and ongoing, this is your central operation. This is your central operation, central or ongoing. This is what the company do, what they sell and what they incur expenses to run their business. And you want the company to be positive here and positive here, big positive here and positive here on both of these figures, both of these figures, especially gross profit. Then the company would list or non-operating expenses. Once again, non-operating expenses could be dividend revenue, rent revenue. Now, if you're in the renting business, if that's what you do for a living, then rent revenue will be part of your central and ongoing operation. But here, this company, we're going to assume it's not in selling, this company in their merchandiser. So they don't have rent revenue. Also, the company will have other expenses and losses such as interest on bonds. So the company might borrowed money. So they'll have interest. This is part of their non-operating section. You keep those two sections separately because you want the investors, you want the creditors to know how well you are doing from running your business. Also, you would list your income tax separately. So they would, investors will judge how well you are managing your tax bill. Then at the end, you would have something called earnings per share. Earnings per share will be covered later on in this chapter. I'm not going to go over earnings per share right now. This is the multiple-step income statement. This is the condensed income statement. Condensed or it's called single-step condense, or not single-step. This is called the condensed income statement. Basically, we condense everything. You want to call it single-step, that's fine, but it's condensed. So basically, we'll take net sales minus cost of goods sold, gives us gross profit, then selling expenses. Actually, this is condensed. This is not the single-step because the single-step emphasizes revenues minus expenses. It will have everything combined together. It will have everything combined together. Maybe I should go to the textbook to see if there's a single-step income statement. But let's take a look at this. This is a condensed format. So notice all the selling expenses, 453. Notice 453, what we do instead of putting them on the face of the financial statements, we'll tell the users to see node D, see node D to figure out the numbers. Then we'll have operating and non-operating. So this is a condensed format. Single-step, this is the single-step income statement. Single-step income statement is basically you will take all your revenues, condensed, not condensed, and combine them together minus all your expenses all put together. So notice this is a single-step. All the revenues, sales, dividend, and rent, they're all combined together. Then all the expenses, cost of goods sold, selling, administrative, interest, income tax, all combined. So we emphasize one single figure for revenues, one single figure for expenses. Net income will be the same under either method 164, 489. Let me go back to this income statement, 164, 489, 164, 489. So the net income is the same. It's just the way it's presented, the way it's presented. And basically the condensed income statement, the one here, is because you don't want to show too many things, because sometimes you have a lot of expenses, and if someone is interested, they will go to the note to look at your expenses, but you don't want to overwhelm them. Questions. The single-step income statement emphasizes what? So this is the single-step. Does it emphasize gross profit? No, it doesn't, because gross profit is part of sales minus cost of goods sold, and it doesn't do that. Is it total revenues and total expenses? Yes. The single-step take all your revenues minus all your expenses. Extraordinary items, more than it's emphasized in the multiple-step? No. The various components of the income from continuing operation? No, it doesn't show any various components. It just tells you your total revenues and your total expenses. So the answer is B. This is what it emphasizes. Now let's take a look, and the way you should do now. This is exercise 4-5. I suggest you pose this recording and see if you could prepare an income statement based on the data that you are giving, based on the data that you are giving. And let's see how well you did. So first, what do you start with? We start with sales. Sales, right here. We'll start with sales. Sales is done. Then we would calculate cost of goods sold. Cost of goods sold is giving. Sales minus cost of goods sold gives us what? It gives us gross profit. This is a figure. And what we do is we have two types of operating expenses. We have selling and administrative. So our operating expenses, and we're going to have selling expenses. And here the selling expenses are listed for you. Freight out, which is transportation, sales commission, and depreciation. Those are your selling expenses, so they combine them and put them right here. Then you have also administrative expenses, administrative expenses, which is also given to you right here. Those are your administrative expenses. Then gross profit minus your total operating expenses gives us income from continuing operation. This is an important figure. Then we would list other revenues and expenses. We have rent revenue. We have interest expense and total other, which is positive. Notice this company is not doing well, but they're making more revenue from what they do. This is just a point out to you that that's why it's important to show the central operating versus other revenues. If you blend them together, then the users don't know what's going on. I see that why is the company making more revenue, more profit from things that they're not in the business of, from rent revenue. So they have rent revenue more than profit that they make from what they do. Then we have income tax, which is $9,070. Then we have net income. So this is an income statement. Hopefully you know how to prepare a basic income statement. The reason I emphasize this because we're going to be adding more complication, more items, items that you never saw before. At the end of this recording, I'm going to invite you again to like this recording, share it and check out my website, farhatlectures.com, especially if you are a CPA candidate. Your CPA is a lifetime investment. Don't shortchange yourself. I can add 10 to 15 points on your CPA exam. Your CPA is 30 to 40 year investment in your career. It's worth it to take every option you have to study for the exam. Most importantly, stay safe and good luck.