From the course: Accounting Foundations

Overview of the income statement

From the course: Accounting Foundations

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Overview of the income statement

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- The income statement contains two items, revenues and expenses. Revenues minus expenses equals the 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 that you have a hundred dollars bill. 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 the 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 those two together, assets and revenues. There is 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 cash, an asset, from you and me through selling software and hardware. We call that Microsoft's revenues. 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 what industry you're in. Net income is revenues, minus expenses. As discussed, revenues are the amount of assets generated through business operations. Similarly, expenses are the amount of assets consumed through business operations. For example, for Microsoft, in order to generate those revenues by selling hardware and software 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 those items consumes assets. Those are expenses. For Walmart, what is their major expense? Their major expense is the cost of the goods that they sell to you and me. On average, if Walmart sells something to you and me for a dollar, that thing costs them about 76 cents. So that 76 cents 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. What are the expenses for McDonald's? Well, they have to buy the food that they sell to you and me. They have to buy the paper and the packaging that they give to you and me, they have to pay their employees that are working behind the counter. Those are all expenses involved in generating revenues. So expenses are defined as the amount of assets consumed in generating revenues. Revenues are the amount of assets generated in doing business. Net income, revenues minus expenses is the net amount of assets generated in doing business. It turns out it's as simple as that.

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