How to calculate net income

Learn why you need an income statement

What is net income?

Net income, also known as net profit or net earnings, is the amount of revenue that a company has earned over a specific period of time after all expenses have been deducted. To calculate net income, the cost of goods sold (if any), selling and administrative expenses, taxes, interest, depreciation, and amortizations are subtracted from the total revenue that the company has generated. The figure that you arrive at is the net of those expenses and is called the company’s net income.

Net income is the amount remaining after all business expenses have been paid. It is a useful number for employers for analysis and study purposes. Employers use the net income figure and other items in the income statement to determine how well the company is performing against established benchmarks. Net income is one of the measures of a company’s profitability.

How to calculate a company’s net income?

In its simplest form, you can calculate net income as follows:

Net income = Total revenue – Total expenses

Alternatively, you can use this formula:

Net income = Gross profit – Total expenses

Small businesses, such as sole proprietorships, often use a simple format for the income statement, which may also be referred to as a profit and loss statement. The term “income statement” is used in the financial statements that the company prepares at the end of the accounting period.

Here is an example of an income statement for a small business:

Operating revenue

+ Non-operating revenue

+ Gains

– Cost of goods sold

= Gross profit

– Selling and administrative expenses

– Interest

– Owner’s draw

= Profit before tax

– Income taxes

= Net income

Why does net income matter for your company?

Net income is one of the most important financial metrics that you can calculate for your company. It tells you how much money you earned and spent during that specific accounting period. It is also important if you have investors in your company because they can use the net income to calculate your company’s earnings per share.

Note: The income statement is an invaluable tool for calculating net income. It allows you to determine whether your prices are too low, or if your costs are too high, or whether your company is sustainable, or whether it is incurring losses.

Your income statement and net income also allow you to plan for the future. If you have financial information over a period of time from the income statement, you are able to take immediate corrective actions if necessary and create financial forecasts.

Net income vs. gross income

Gross income is also known as gross margin. It is the amount that remains after you have paid all the direct costs associated with producing your product (if you sell products rather than services). Depending on your product price, you can increase your gross margin at a fast rate. As your gross margin increases, you can produce and sell more of your products. The same is true if you reduce the costs of producing those products, which is reflected in the cost of goods sold. Gross margin is an important financial metric for business owners to use if they wish to grow their business.

On the other hand, net income is the actual amount of money that you earn in a given accounting period. As gross margin increases, net income may also increase – although it depends on whether items such as selling and administrative expenses are increasing or not.

Conclusion

Some small businesses attempt to operate without preparing a regular income statement. This is like flying blind. It is not sufficient to just glance at your bank balance and expenses in your checking account register. To get a clear picture of net income and make informed decisions for your business, you need to prepare an income statement so that you can look at important financial metrics such as gross margin and net profit margin.

Questions

The Tradable (Code Instructions)

How to calculate the net profit margin? The net profit margin, also known as the net profit ratio, is a measure of how much income a company generates for every dollar of sales revenue. Here is the calculation:

Net profit margin = Net income / Total revenue

The net profit margin is a comparison between the total revenue received over a period of time and the income that remains after all expenses have been deducted. The final number on the income statement is divided by the top number to obtain a percentage. For example, if you get 5%, it means you earn 5 cents for every dollar in sales after deducting your expenses.

In which financial statements does net income appear? Net income appears as the bottom line figure on the income statement. It also appears in the cash flow statement as the top line number under operating activities and is recorded in the statement of retained earnings.

What is net operating income? Net operating income is your income after deducting production costs and administrative expense costs such as marketing. It is the income generated from your operating expenses. A synonym for net operating income is earnings before interest and taxes (EBIT).

Source: https://www.thebalancemoney.com/how-to-calculate-net-income-5201812