How to Use an Income Statement to Know Your Worth

Income Statements

An income statement shows your business’ revenue and expenses over a course of time, like a month, a quarter, or a year. The best way to figure out how to read one is to look at some examples. So, let’s start with Stephanie’s example. Stephanie owns a photography business, and this is her income statement for the first quarter of the year:

Income Statement – Q1

 

This income statement tells us a lot of information about Stephanie’s business. First up, there’s the gross profit, which is calculated by totaling up sales for that period of time and subtracting the cost of goods sold (or how much it costs to produce those products or services).

For Stephanie, cost of goods sold includes things like travel costs to get to photo shoots. A potter or an artist would include all of the raw materials that go into each piece. A freelance writer might have no cost of goods sold since producing their work often just involves typing a document on the computer. 

Next, there’s a rundown of regular operating expenses involved with running the business. These are administrative costs that aren’t directly tied to the production of your goods or services but are important to keeping your business going. Stephanie deducts the day-to-day expenses like rent for her co-working space, her part-time personal assistant, her photoshop subscription, and her project management software. She also deducts costs required for customer acquisition, such as paying for social media ads or purchasing a booth at a trade show.

Finally, the total expenses are subtracted from the gross profit to give the net income for the given time period. 

An income statement clearly and simply breaks down your sales, cost of goods sold, and expenses over a given period of time. These are the easy equations to use:

• Gross profit = sales – cost of goods sold
• Operating income = gross profit – normal business expenses
• Net income = operating income – any unusual business expenses

There are also times when your income statement will include unexpected or unusual expenses. For instance, let’s say Stephanie had to make a massive computer purchase that only happens once every four years or she had to consult an attorney because a client sued her. In these cases, her income statement would have an additional section for non-operating expenses and her operating income (how much she made before the odd expense) is shown separately from her net income (how much she ended up making). 

Separating these one-off expenses this way can help prevent panic because if your income is especially low one period, you can clearly see that it was from an unusual expense and not a deeper issue with your sales or regular spending. Below is an example of what the income statement would look like with some non-operating expenses included.

Income Statement – Q1

Use Your Income Statement to Determine Your Worth

Using an income statement gives you a good snapshot of a few things. First, it tells you exactly how much you’ll see in your bank account when all is said and done. This allows you to clearly see if you’re really making enough money to survive. 

In our example, if Stephanie continued earning and spending about the same for the rest of the year, she’d make a healthy $60,000 in profits, but she’d only end up with $33,000 after expenses, so she would need to determine whether or not that would be the right amount for her to continue with her current business model.

When you look at your income statement, you’ll want to think hard about your net income and determine if you’re making what you’re worth. After all, you’re in business to make money and you definitely don’t want to sell yourself short. You know more than anyone how much hard work you’re putting into your business! If you don’t feel like you’re bringing in enough, there are some steps you can take to increase that number, so let’s talk about that next.

Analyze Your Income Statement to Grow Your Business

In order to bring in more money and continually grow your business, not only should you review your income statement on a regular basis, but you should also analyze what it’s telling you. 

To help you dig into it all, I’ve put together some questions to ask yourself when analyzing your income statement along with next steps you can take to move your business in the right direction:

• What are your biggest expenses?
  • Make a list of these and figure out where you can cut them down.
• Are your expenses actually pretty low, but you’re just not bringing in enough profit to make up for them?
  • Make a list of ways you can increase your sales.
  • Determine if you need to raise your prices.
• Has your income been growing, shrinking, or staying the same over time?
  • Determine which factors are causing changes and make a list of ways you can improve in those areas.

Once you start looking at your income statements and really analyzing them over time, you can also determine your growth trajectory. Knowing where you’re headed can help you make smart decisions about all aspects of your business such as purchasing new equipment, paying for advertisements, hiring new employees, and developing new products or services. Even knowing you have a positive growth trajectory should be exciting enough for you to want to drill down into your income statements!

To put it simply, understanding your income statement can help you figure out how to make more while spending less, so make sure you take the time to do this on a regular basis. You owe it to yourself.