The income statement is a representation of how the business is doing through its natural course of business.
If you are a retail store, what is your natural course of business? It’s selling goods, and your expenses associating with selling goods are purchasing the items that you sell, paying for your payroll, and paying for the rent; maybe you have advertising. So the income statement is going to be a general list of everything you earn through the course of your business, selling inventory, and the cost associated with running your business. It’s what you spent to purchase your inventory, how you paid your employees, what you paid in advertising, what you paid in rent, and it’s detailed with the top line being revenue.
The second line will be your cost of goods sold. That’s the direct expense of the items you sold. Following that will be all the expenses associated with your business. So revenue, minus cost of goods sold, will give you your gross profit. Then you total your remaining expenses. Gross profit minus your expenses is going to give you your net profit.
What’s not included on the income statement is the purchase of assets, or the sale of assets. An asset in the example of a retail store could be the shelving units. It could be large displays. If you have a restaurant or a café, it could be a refrigerated cooler. These assets that you’re purchasing are not actually going to be on the income statement: they’re going to be on the balance sheet. We’ll talk about that in a few minutes. Also not on the income statement is money that maybe you borrowed to purchase equipment. So if you took out a loan, that isn’t actually revenue. That’s not what you do throughout the natural course of running your business. That, too, will be on your balance sheet and on your cash flow statement. And we’ll talk about those later in the course.