If you are in business you need to understand three basic financial statements, the Income Statement, the Balance Sheet and the Cash Flow Projection – artists and other creative entrepreneurs are no exception. This article will discuss the Income Statement also known as a Profit and Loss or Revenue and Expense statement.
Income Statement Concepts
The first thing to note about the Income Statement is that it covers your financial activity for a period of time. Make sure you grasp this concept – “for a period of time”. The time period could be a month, a quarter, a year or any period you choose, even a day.
The name Income Statement may be a bit misleading as this financial report covers not only income but expenses as well. Here is the basic idea behind the Income Statement: Sales (Revenues) minus Expenses equals Profit/Loss. If your Sales (Revenue) are greater than your expenses then you have a profit, if your expenses are greater than you Sales (Revenue) then you have a loss.
Your Income Statement could be as simple as three lines (Sales, Expenses, Profit/Loss) but this wouldn’t really tell you much other than whether you made a profit or not. More than likely your accounting program, accountant or bookkeeper will provide you with much more detail but it is extremely important you know what you are looking at. Where did the sales come from, was it original art, prints, or frames etc.? What made up the expenses, canvas, paint, labor, rent, electricity etc.? You use the Income Statement to review and manage your financial activity and make changes as needed.
Key Parts Of The Income Statement
- Sales (Revenue)
- The is the part of your income statement where you list the sources of revenue or sales. It is a good idea to have this section broken out by your product lines. See Business Plan Basics For Artists and Creative Entrepreneurs – Your Product List for ideas on defining your products or product lines.
- Cost of Sales
- This is the section where you list your expenses associated with producing the art, goods or services listed in the Sales section. Take note that these expenses are not overhead and are a direct result of producing the art or products listed in the Sales section.
- Gross Profit
- Gross profit is calculated by subtracting your Total Cost of Sales from your Total Revenue
- General Selling and Administrative Expenses
- These are business expenses which are generally fixed and do not vary with your level or amount of sales. You can think of them as overhead.
- Net Income
- Net income is calculated by subtracting your General, Selling and Administrative Expenses from your Gross Profit. Usually Income Taxes are subtracted from this Pre-Tax Net Income to arrive at Net Income After Taxes.
- Notes To Income Statement
- These are notes generally added by an accountant to further explain what assumptions went into making the income statement. Many times these are key to understanding the income statement – be sure to read and understand them.
Why Do I Need An Income Statement And Why Should I Care?
- You will need an income statement to file your taxes.
- You will need an income statement if you apply for a bank loan whether it is based on your past financial results or projected results for a new business.
- You need to track your performance by comparing one period i.e. 2010 with prior periods such as 2009 and 2009.
- Your income statement will allow you to see trends in your costs and the overall makeup of your sales so you can take advantage or corrective action if needed.
Ok, now you should have a good feel for one of the key financial statements. There are many resources out there to help you understand your Income Statement. Talk to your accountant or bookkeeper if you don’t understand something or think you need more detail – after all it is your business!
I invite you to take a look at the sample Income Statement for My Art Business and see if you can determine which product is the most profitable. Here is a recent article from Inc. Magazine – How to Understand an Income Statement.