The income statement
By the end of this lecture you will be able to
- Read an income statement line by line, from revenue to diluted earnings per share
- Apply the five-step revenue model and compare FIFO, LIFO and weighted average cost
- Separate operating from non-operating items and judge an adjusted EBITDA
- Compute basic and diluted EPS with the treasury stock and if-converted methods
- Say where US GAAP and IFRS differ on the lines interviewers ask about
Accounting is the language companies use to describe themselves. You cannot value a business, build a model or survive a technical interview without speaking it fluently. We start with the statement everyone has heard of, the income statement, also called the profit and loss account or P&L, and read it line by line from revenue to earnings per share.
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Interview questions on this lecture
Walk me through the income statement.
It shows profitability over a period. Revenue minus cost of goods sold gives gross profit. Subtract operating expenses such as SG&A, R&D and depreciation to get operating income, or EBIT. Subtract net interest and other non-operating items to get pre-tax income, then taxes to get net income. Divide by diluted shares for EPS.
What is EBITDA and why is it used?
Earnings before interest, taxes, depreciation and amortisation. It approximates operating cash flow, is independent of capital structure and of depreciation policy, so it makes companies comparable and underlies EV/EBITDA. It ignores capex, working capital and taxes, so it overstates cash for capital-intensive businesses.