NSE #13: The Income Statement

I hope you've been following my NSE investment series.

Today, I'll be showing you how to interpret a company's financial report starting with the Income Statement.

Here's a quick recap of some of the relevant stuffs I have explained before now:

• The most influential factor in the investment world is Growth.
• A Financial report consists of five major parts: The Income Statement, The Balance Sheet, The Cash Flow Statement, Statement of Shareholders Equity and Notes
• Time Value of Money
• The Magic of Compound Interest
• Understanding Risk and Reward
• Why you need to start investing
• Having the right perspective
• Compound Interest Again
• Understanding Stocks and Bonds
• Understanding the different types of shares
• How Stock prices are determined
• Why some companies are selling at high stock prices and others at low stock prices
• What to take care of while deciding on which stock to buy
• Stock Investment Strategies
• My Updated Stock Analysis sheet

So let's move on to the topic of the day: The Income Statement. Below is a snapshot of Total Nigeria's Income Statement for 2012

Of the 5 parts of a Financial report, 3 are most important: The Income Statement, The Balance Sheet and The Cash Flow Statement.  In subsequent posts I will explain the The Balance Sheet and The Cash Flow Statement.

The Income Statement is also known as the Profit and Loss Statement. It details the company's revenues and expenses for a specified period (1 year for an annual report). It is the most popular Statement in the Financial Report, because it's the report that most easily shows the financial trend of the company. When taken across several reporting years, it shows if the company is growing or not, if the gross margin is improving or not, if the operating profit margin is too slim or not, the effect of non day-to-day (operations) transactions, and the effect of foreign exchange on revenue.

Most Income Statements can be separated into the following lines:

1. Revenue or Total Sales: This shows the total amount of sales the company made in the reporting period. In the image above, Total made a sale of over 217 billion naira in 2012. That's a lot! That's about 600 million naira a day.
2. Cost of Goods Sold (COGS): This is the cost of the raw materials used in the production of goods sold. If I sell DSTV dish for N15,000 and bought each dish from the foreign supplier at N10,000 per one. Then I spend N500 to paint it white and brand it as a DSTV dish. My COGS will be the total money it cost me to make the finished product (N10,000 + N500), N10,500. That's my cost of goods sold. The special thing about this is that, I can not afford to sell below that price. My Revenue -- COGS = Gross Margin. In the example above, Total is spending N88 as COGS for every N100 it makes as Revenue. That's a very slim Gross Margin, 12% Gross Margin. All the mouth watering N217 billion revenue is just N26 billion in Gross Profit. And there are SG&A expenses to cater for.
3. Selling, General and Administrative (SG&A) expenses: This shows what the company spent to get the finished products to the buyer. In Total's case it covers it's cost of running the filling stations, advertising and workers' salaries.
4. Operating Profit: This is what is leftover after the company has paid all its production and SG&A expenses. Total is obviously in a low profit margin industry. Almost all its revenue is spent on production & operating expenses.
5. Other Income and Expenses: Occasionally, companies make money from tax refunds, sale of old equipment e.t.c. And they also lose money when someone charges them to court and wins a compensation case against them. That affects the Revenue and must be shown under Other Income and Expenses.
6. Profit Before Tax: This is the sum of the Operating Profit and Other Income/Expenses the company had in the reporting year. It's the one tax is calculated on.
7. Tax: The tax the company paid. The corporate tax in Nigeria is 30%. Some pay 2% Education tax.   
8. Net Profit: The money the company really made. It's what's left after all the official expenses and tax are deducted. This is what we are all interested in seeing that it's going up year after year. Any year a company fails to exceed it's last year's net profit, it's share price (usually) takes a big hit.

And these are what you'll find in most Income Statements. Banks income statements are very different. But same logic runs through: In the end, there's a Revenue, an Operating Profit and a Net Profit.

Next in the series will be -- The Balance Sheet.