Income Statement and Owner's Equity: Comprehensive Study Notes

Income Statement: Overview

The income statement shows the result of the operations for a given period. It is also called the Profit and Loss (P&L) Statement.
Purpose: to inform financial investors, creditors, and readers whether the company is profitable during the financial year.
In corporate finance, the income statement is the record of the company’s profit and loss over the financial year.

Natural Form (Nature of expense method)
- Also called the Single-step income statement because it deducts expenses from revenue to arrive at net income.
- Presents expenses according to their nature (e.g., raw materials, labor costs, depreciation, etc.).
- Described as a single-step format of calculating net income.
By nature vs by function distinctions:
- Income statement by nature discloses expenses according to what was spent on (e.g., materials, depreciation, staffing).
- This contrasts with the Functional Form which organizes expenses by function (costs of sales, admin, etc.).

Service Income: revenues earned or generated by the business from performing services for a customer or client.
- Examples: Dental fees, Medical services, Laundry services, Accounting services, etc.
Salaries or Wages Expenses: payments to employees for rendering services.
Utilities Expense: costs related to the use of electricity, fuel, water, and telecommunications facilities.
Office Utilities (often noted as Utilities) and related office supplies used in daily operations.
Insurance Expenses: the expired portion of premiums paid on insurance coverage (e.g., health, life, motor vehicle, property).
Depreciation Expenses: annual portion of the cost of a tangible asset (e.g., buildings, machinery, equipment) charged as an expense for the year.
Interest Expenses: charges for the use of borrowed funds.
Uncollectible Accounts / Bad Debts (Doubtful): the amount of receivables charged as expenses for the period because they are estimated to be doubtful of collection.

Net Sales: shows total revenue generated by a company, excluding sales returns, allowances, and discounts.
Other Income: earnings outside the company’s core operations (e.g., interest, rent, profits from asset sales).
Formula (Net Sales):
Net\ Sales = Gross\ Sales - Sales\ Returns\&\ Allowances - Sales\ Discounts + Other\ Income
Cost of Sales: the accumulated total of all costs used to create a product or service that has been sold.
Freight In: cost incurred to ship raw materials or goods into storage or production facilities.
Distribution Expenses: costs incurred to deliver products from production to customers (also known as distribution expenses).
Freight Out / Delivery Expense: cost of shipping goods sold to customers; when the seller pays transportation charges, this is Freight-Out or Delivery Expense.
Administrative or General Expenses: costs associated with running the business that do not relate to products or sales.
Other Expenses: expenses not related to the company’s main business.
Finance Cost: costs, interest, and other charges involved in borrowing money to finance assets or operations.

The income statement demonstrates the company’s operational efficiency and financial health.
Indicates profitability: positive net income means profit; negative net income indicates a loss for the period.
Stakeholders use income statements to make informed decisions about investments, cost management, and strategic planning.

It is a financial statement that measures changes in the owners’ equity throughout a specific accounting period.
Covers the following elements:
- Net profit or loss
- Dividend payments
- Equity withdrawals (drawings)

CAPITAL: An account bearing the owner’s name representing the original and additional investments of the owner invested by the amount of net income earned during the year (and retained earnings, if applicable).
DRAWING(S) / Withdrawals: Withdrawals of cash or other assets by the owner from the business.
NET INCOME: Revenue minus expenses; the amount the business earns after costs and taxes.
NET LOSS: Occurs when expenses exceed revenue.

Step 1: Gather the needed information. The most appropriate source is the adjusted trial balance or financial statements.
Step 2: Prepare the heading. The heading is made up of three lines: name of the company, the title of the report, and the period covered.
Step 3: CAPITAL AT THE BEGINNING BALANCE: report the beginning capital balance for the period (the amount from the previous period).
Step 4: ADD THE CONTRIBUTIONS: contributions from the owner increase capital.
Step 5: ADD THE NET INCOME: net income increases capital. Net income = total revenues − total expenses (refer to the income statement for the amount).
Step 6: DEDUCT THE OWNER’S WITHDRAWALS: withdrawals are recorded separately from contributions.
Step 7: COMPUTE THE ENDING CAPITAL BALANCE: determine the ending capital balance for the period and draw the final line (one horizontal line for a subtotal; two horizontal lines for the final amount).

Freight terminology:
- Freight In: inbound shipping costs for materials into storage/production.
- Freight Out (Delivery Expense): outbound shipping costs paid by the seller to deliver goods to customers.
The statements align with a classroom/module focus on SHS-FABM (Senior High School – Family, Acquaintance, Business Management and Entrepreneurship) accounting basics.
The material emphasizes practical steps for preparing financial statements, including how to structure headings and compute ending balances.