From the course: Finance for Non-Financial Managers

Overview of the income statement

From the course: Finance for Non-Financial Managers

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Overview of the income statement

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- The second primary financial statement is the income statement. The income statement contains two items, revenues and expenses. Revenues minus expenses equals net income, that's it. That's the income statement. But what does the word revenue mean? The meaning is kind of subtle but important. Revenue is the amount of assets created from the sale of goods or services. Let's say you have a hundred dollars bill. Well, that's an asset. Now, where could you have obtained that asset? Well, you could have borrowed it from somebody. Then we call the source of that asset a liability. Or you could have taken it from your personal savings, in which case we call the source of that asset paid in capital. Or you could have gone out and done some work and earned the $100. If you generate the asset through your profitable efforts, then the source of the asset is revenue. People often have difficulty mixing these two together, assets and revenues. There's the asset, the $100, and there is the source of the asset, borrowing, personal investment, or work. Revenue tells us that a company obtains some of its assets through work, through providing value to its customers. So how do companies generate assets through business operations? Well, that depends on what the business is. Microsoft, for example, generates assets by collecting it from you and me through selling software, hardware, and services. How does Walmart generate assets through doing business? Well, they sell products to you and me, and they sell us memberships in their Sam's Club. So that's the way Walmart generates assets through doing business. Those are Walmart's revenues. Revenues are ways that companies generate assets through doing business. And whatever your company is, that's the way you're going to generate revenue. This differs depending on the industry you're in. Net income is revenues, minus expenses. As we've discussed, revenues are the amount of assets generated through business operations. In the same way, expenses are the amount of assets consumed through business operations. For example, for Microsoft, in order to generate those revenues by selling software, hardware, and services to you and me, they have to pay programmers. They use equipment, they have to pay for electricity, they have to pay for maintenance on all their facilities. Paying for these items consumes assets. Those are expenses. For example, with Walmart, what's their major expense? Their major expense is the cost of goods that they sell to you and me. On average, if Walmart sells something to you and me for $100, that thing costs them about $76. So that $76 is an expense, the amount of assets consumed in generating revenues. Walmart also has buildings that slowly wear out over time. The amount of that wear and tear represents assets being consumed in generating revenues. We call that depreciation expense. So expenses are defined as the amount of assets consumed in generating revenues. Now, let's look at simplified income statements for two companies, Apple and Tesla. The numbers here are in billions of US dollars and are for the year 2023. Take a look at these. First of all, you'll see a difference in scale. Apple is so much larger than Tesla. Yet we talk about Tesla so much, and this illustrates an important point. The financial statements are only one measure of a company's performance. A very important measure, but only one measure. So why do we talk about Tesla so often? Because for Tesla, the scale of operations now is only a fraction of what we think they're going to be in the future. We expect Tesla to grow. So we talk a lot about Tesla now. Now remember, revenues are the amount of assets generated in doing business. Expenses are the amount of assets consumed in doing business. Net income, revenues minus expenses, is the net amount of assets generated in doing business. It's as simple as that.

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