A classified income statement is a financial document that shows the income earned by a company over a period of time and separates the individual aspects of the business on the document. This makes it easy for management, shareholders, and potential investors to digest the information easily. It also allows these statistics to be compared to business competitors or the company's own past performance, as well as facilitating the calculation of financial ratios. In general, a classified income statement is broken down into the revenue from sales and services on the positive side and the cost of goods sold, operational expenses, and other expenses on the negative side.
When a corporation is owned in part by the public and is responsible to its shareholders, it must prepare financial statements. These statements are detailed financial records of a company over a set period of time. The two main types of these statements are balance sheets, which show a company's assets and liabilities, and income statements, which are concerned with the income that a company brings in through its business. A classified income statement separates each element of the statement into individual parts.
The classified income statement generally begins with the revenue earned by a company through sales or services. This amount is the total from which all of the expenses on the report will be subtracted. Chief among these expenses is the cost of goods sold, a number that can be attained by checking inventory totals and amassing all of the money used to purchase inventory.
In addition to the cost of goods sold, a classified income statement should also include the amounts spent on operational expenses. These expenses combine the selling expenses amassed directly during the sales of a company's products and the administrative expenses involved with the general day-to-day operations of the business. Other various expenses, such as interest expenses and dividends, should be the last part of the statement.
It is crucial when preparing a classified income statement that all of these disparate elements be given their own space on the statement so that they can be studied with ease. By framing the statement in this manner, a company can see how it stacks up in pertinent areas of the business against competitors as well as its own past performance. In addition, having the statistical information separated in this manner makes it easier to formulate financial ratios, which combine two aspects of a company's business to create a ratio useful for business assessment.
How to Prepare a Classified Income Statement?
A classified income statement is prepared for a particular period, such as quarterly or annually. When getting ready to prepare one, it is first necessary to gather all the pertinent information, which should be available from other accounting reports that have been kept throughout the relevant period. The specific items to be included will depend on the individual business but must account for all the income received and expenses incurred.
What Are the Four Sections of a Classified Income Statement?
Once all the income and expenses are gathered, they are arranged in the statement in four sections. In order, these sections are revenues, expenses, gains, and losses. In each section, the line items relative to that heading are listed and then totaled at the end of the section. In the case of larger companies, these sections may be further broken out to separate the operating revenues and expenses from non-operating ones. Income statements can also be created for specific departments, products, or regions in which the company operates.
Revenues
All revenue coming into the company must be listed on the classified income statement, and can include some or all of the following line items:
- Income from product sales
- Income from services provided
- Interest earned
- Rental income
- Partnership income such as royalties or advertising on property
Gains
Gains are also sometimes referred to as other income. This term describes the revenue received from long-term assets that are sold, such as land, equipment, or subsidiary companies. Gains are considered to be a one-time income that is not received through normal business activities.
Expenses
All expenses and losses also need to be gathered. For companies that sell products, this includes the cost of all the goods that were sold during the period being analyzed. Every company has normal operating costs, which include salaries, rent, depreciation, commission, utilities, and research and development.
Losses
Losses can be incurred in such situations as when the company is sued, when long-term assets are sold at a loss, or due to some extraordinary event.
Is a Classified Income Statement Given to Shareholders?
The main purpose of creating this type of statement is to give it to shareholders, however, it is also useful for management to get a good picture of the company's health as well as point out areas for further inquiry. There are many insights that can be gleaned from this document. In some cases, it may be used by creditors to assess a company's viability.
Financial Health
Simply by looking at the totals of the four different sections, it's easy to get a quick look at whether the company is operating at a profit, although this is only one indication of how the business is doing overall. Even if the company is operating at a substantial profit, a large loss section may still be cause for concern.
Management Ability
This statement can also point to areas where management has been missing opportunities or is not working up to expectations. Multiple lawsuits or money sitting in the bank when it could be used more profitably are two items that might warrant further investigation.
Area Performance
When companies prepare these statements according to department or sector level, they are able to see areas that are not operating well and are decreasing the overall financial health of the company. Poorly performing segments can thereby be targeted for improvement or selling off. Conversely, highly performing segments can be targeted for further investment.
Competitive Advantage
Given that all companies create classified income statements, which then become part of their annual reports, they can be compared between competitors to see how the company is measuring up.