The income statement is of great value and importance to a business, at it shows the whole story of a business transactions during a particular time, while it provides the results thereof. The below article discusses in detail the income statement.
The income statement is one of the three main financial statements. The other two are balance sheet and cash flow statement. Since it is the traditional income statement, it is used commonly in every business entity. The purpose behind the preparation of this traditional income statement is to show the classification of costs in terms of manufacturing or non-manufacturing expenses while showing the profit and loss of a business. It is used mainly for external reporting. However, with the contribution approach to income statement, another income statement is prepared for the internal use of a business entity.
When used with the contribution approach, it is known as contribution income statement.
Every business necessitates the process of planning and decision making. In this way, the contribution income statement is very much useful in planning and decision making process of a business entity, as it deals with the costs by behavior showing the relationship between variable costs and the fixed costs, unlike the traditional income statement, that provides the information in terms of the function of costs.
It is with the help of contribution margin analysis a distinction can be made between the variable costs and the fixed costs through which the extent to which there has been contribution may be identified. The contribution margin is the excess over variable costs. That is, the amount which is available to meet the fixed costs or expense. This will help a business entity to ascertain whether it is capable enough to cover the fixed costs or not.
Since every business is interested in profit planning constantly, the preparation of contribution income statement enables managers or the concerned people to undertake the profit planning activities by providing great insights. It shows the breakeven point that represents the level at which the sales revenue equal to the variable costs and the fixed costs. In addition, the contribution income statement has its useful effect in determining the desired income or target income to be attained.
K. A. Fareed (Fareed Siddiqui)
Writer, Trainer, Author, Software Developer
BBA, MBA-Finance, MPhil-Financial Management, (PhD-Management)
Module 1 - Leadership and Management ILM – UK
Individual Member of Institute of Management Consultants of India
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