How to Analyze an Income Statement for Better Business Decisions

Key takeaways

Analyzing an income statement allows business stakeholders and potential investors to gain insights into a company’s profit and loss position. Here are some important things to know:

• An income statement is one of four key financial statements that allow you to see the overall snapshot of an organization’s financial health.

• Stakeholders and business management professionals can analyze the income statement to identify sectors that are underperforming, find areas to cut costs, and explore which costs generate profit. 

• You can analyze an income statement using horizontal, vertical, and ratio analysis, often with the aid of financial analysis tools and software. 

The income statement is one of many financial statements you can analyze to aid in data-driven decision-making for your business. Learn how to analyze financial statements, when to produce them in the accounting cycle, and the accounting software that can help you by enrolling in the Intuit Academy Bookkeeping Professional Certificate. 

What is an income statement?

An income statement, also known as a profit and loss (P&L) statement, measures the amount of revenue earned over a specific period and is one of the core four financial statements you can use to gauge your organization’s overall financial health. 

The income statement report details the revenue, expenses, gains, and losses a company has accumulated over the specified time period, and shows the overall profit or loss of the company. Businesses use this final number to calculate the earnings per share (EPS), which represents the amount of profit investors would earn if the company were to distribute all net profits. 

What is on an income statement template?

An income statement typically has four sections, each with its own line items: revenue, expenses, gains, and losses. The income sheet begins with a heading that specifies the period the statement covers, such as ”For the year ended December 31, 2025.” This indicates that the income statement covers the entire year 2025. Explore each section in more detail below. 

Revenue 

Revenue encapsulates any income or profits your business earned over the operating period before paying taxes on them. This is always the first item at the top of the income statement. Common operating revenue line items include:

• Products sold: This line item includes any manufactured item or good sold by a retailer where the revenue comes from the sale of the good. 

• Services offered: This includes any fee a business receives for performing a service. For example, if you’re a video editor, your revenue would come from the video editing services you offer to clients.

Non-operating revenue refers to any income gained from activities outside of your company’s typical operations. These revenue line items often include:

• Interest earned

• Rental income from business property

• Royalties

• Advertisement revenue on the business property

Expenses

An expense is any amount of money spent to operate the business and generate revenue. Expenses include cost of goods sold (COGS), manufacturing costs, marketing costs, administrative costs, and research and development (R&D) costs. Common line item expenses include:

• Labor (wages)

• Rent

• Utilities

• Shipping and transportation

• Interest paid on loans

Gains

Gains are one-time sales, also known as other sundry income, that typically involve the sale of long-term assets the company owns. For example, as a video editor, gains could include the sale of an old computer, monitor, or server. For larger companies, this may be the sale of land, a building, or a subsidiary company.

Losses

Losses are large, unaccounted-for expenses that may occur during the sale of long-term assets or from an unusual expense, like a client lawsuit. 

Income statement format

The structure and format of an income statement help you determine your final net income over the period using this equation:

Net income = (Revenue + Gains) - (Expenses + Losses)

The income statement lists the revenue line items, followed by expenses, then gains and losses, with the bottom line showing the net income over the period. Using the video editing example above, a basic income statement example may look like:

Superior Video Editing income statement for the year ended December 31st, 2025

Key metrics for income statement analysis

Some of the key metrics from an income statement, such as financial ratios, help investors and stakeholders identify a business’s trends. Common financial ratios you can derive from an income statement include:

• Gross margin: The amount of revenue a company maintains after subtracting all direct costs associated with COGS. To find this ratio, divide the gross profit by net sales. 

• Profit margin: This ratio shows the profit per sale after expenses. To find it, you divide the net income after taxes by the net sales. 

• Operating margin: The operating margin represents the amount of revenue remaining after deducting variable costs like labor and materials. Divide the operating income by the net sales to find the operating margin. 

• Earnings per share (EPS): This is a common ratio investors use to find value by taking the net income, subtracting dividends, and dividing by outstanding shares of the company’s stock. 

• Price-to-earnings ratio: This ratio, also known as the P/E ratio, indicates whether a company’s market price is overvalued or undervalued by dividing the market value per share by the EPS. A high P/E ratio indicates an overvaluation, while a low one indicates undervaluation. An investor can then decide how much money they need to invest to generate a return.

Read more: Accounting Profit: What It Is and How to Calculate It

What are five ways to analyze financial statements?

The five main ways to analyze financial statements include:

• Horizontal analysis: Compares financial data from multiple years

• Vertical analysis: Analyzes line items as percentages of the base figure

• Ratio analysis: Calculates relationships between key metrics

• Trend analysis: Uses historical financial data to predict future trends

• DuPont analysis:  Breaks down return on equity to find company profitability

Types of income statements

You can find many variations of income statements; however, the two most common include the single-step income statement and the multi-step income statement. Income statement types vary depending on the industry, accounting standards, company size, and use case.

Single-step income statement

The single-step income statement is the simplest income statement that shows revenue and expenses. It breaks down all revenue, gains, COGS, and losses a company faced over a given period, with the total net income on the bottom line. It provides a basic overview to accountants, executives, and shareholders about where a company stands. 

Multi-step income statement

Larger companies use multi-step income statements to provide their investors with more information on their financials, and the main difference from single-step is the way they break down costs. Multi-step income statements use direct costs and indirect costs. Direct costs are expenses that directly relate to a line item, such as the cost of materials for a product. Indirect costs are operational costs like marketing, which can’t be directly attributed to a product. 

This type of income statement shows gross sales, gross profit, operating expenses, non-operating expenses, and operating income, enabling investors to more easily calculate a company’s net margins. 

How to analyze an income statement​: Best practices

You can use two types of analysis, vertical and horizontal, to begin examining an income statement. By utilizing both methods, you can draw out different insights. Many financial analysts begin their process with income statement analysis because it covers all income and expenses. 

Vertical analysis

In a typical income statement, each line item represents a numerical value, but vertical analysis turns those numbers into percentages of gross sales. This allows you to see how every expense compares to another. If you were to compare one business to another in the same industry, you could compare what percentage of their expenses goes to marketing, for example.

Horizontal analysis

With horizontal analysis, you compare a company’s financial statements over different accounting periods, such as year-over-year or by each quarter. You can use either the dollar amount as listed or percentages from vertical analysis. This type of analysis enables you to directly compare each line item across different periods so you can spot growth, decline, or trends that can drive business or investment decisions. 

What is an income analysis?

Income analysis is a financial evaluation of various components of an income statement. You can analyze components, including revenue, cost of goods sold, and operating expenses, to assess a company's profitability and financial health. 

How income statements can drive better business decisions: Benefits and limitations

As a business owner, you can analyze income statements to determine if costs are decreasing or increasing, how sales are doing over time, and whether the EPS is rising. Likewise, you can analyze a potential investment by seeing how the EPS increases over time to calculate how much you could earn on your investment. 

For example, if you use a horizontal analysis and see that sales have increased year-over-year (YOY) in tandem with an increase in marketing expenses, you could continue to spend in marketing with confidence that it is helping increase your sales. 

Benefits of analyzing income statements

Analyzing income statements helps managers and executives gain a deeper understanding of where income and expenses lie. Some additional examples of benefits of income statement analysis include: 

• Seeing how the company performs compared to its competitors in sales

• Whether a business can use secondary sources of income, like interest, for production capacity expansion 

• Revealing opportunities that can help you make decisions about pushing sales or expanding into new areas 

• Analyzing what capital assets you can sell or buy, or what areas may need to cut costs 

Limitations of analyzing income statements

The main limitation of analyzing an income statement is that you may not get the full picture without analyzing other important financial statements, such as balance sheets and cash flow statements. To get the full scope of a company’s financial health, you need to analyze each statement in the context of the others. 

Expenses on an income statement may not always align with the reality of expenses on a balance sheet, especially when it comes to depreciation, or the value lost on capital over time. A balance sheet allows you to see those liabilities and capital expenditures, which you won’t find on an income statement. 

How to prepare and analyze an income statement: Tools and resources

To prepare an income statement, you can use financial analytics software to help you generate and analyze financial statements. If you’re using basic accounting software like QuickBooks or financial planning and analysis software, you can generate basic income statements and analyze them using the methods outlined above. However, more advanced business intelligence software has data visualization capabilities that allow you and stakeholders to analyze trends via a dashboard quickly. 

Explore free resources for accounting and financial analysis

Exploring ways to stay connected to the latest industry trends? Stay up to date with our LinkedIn newsletter, Career Chat. Check out other free resources for beginner bookkeepers and accountants who want to explore the field:

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