Definition of Multi-Step Income Statement
The multi-step income statement provides a similar result as to what a single-step income statement provides with the only difference that it uses multiples stages or steps to compute the net income, i.e. in this method; multiple subtractions are made to arrive at the net income figure where basically the operating revenue and expenses are separated from the non-operating revenues, expenses, gains and losses.
Explanation
As discussed above, the multi-step income statement is like a single-step income statement, but the difference only lies in the representation part. In a multi-step income statement, the calculation is broken down into several parts to arrive at the net income figure at the bottom line. The gross profit is too separately calculated and shown in such an income statement. Here, operating expenses and operating revenues are separated from non-operating and non-operating revenues and separately in different steps. A multi-step income statement will use multiple equations to arrive at the final net income figure. Basically, a multi-step income statement will use three different formulas to arrive at the final net income figure. The formula for the same will be discussed in the following topic of this article.
The formula of Multi-Step Income Statement
As stated in the above discussion, the formulas used to arrive at the net income figure in the multi-step income statement approach are as follows:
- Calculation of gross profit
Gross Profit = Net Sales – Cost of Goods Sold
Here to arrive at the gross profit number, the cost of goods sold number is subtracted from the net sales.
- Calculation of Operating Income
Operating Income = Gross Profit – Operating Expenses
Here the operating expense gets subtracted from the gross profit, which helps us arrive at the value of operating income
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- Calculation of final Net Income
Net Income = Operating Income + Non-Operating Items
Here the operating income obtained is added to the non-operating expense, revenue, gains and losses, where the final resultant stands to be the net income for the period.
How to Prepare Multi-Step Income Statement?
The preparation multi-step income statement requires the following steps:
- Selection of reporting period: The selection of income statement is very important based on the timeline where we decide if we need to prepare it monthly, quarterly or annually. Public traded firms are required to prepare on a quarterly and annual basis.
- Creation of document header: The header of the statement will bear the company’s name and help the user identify it as an income statement along with the period or the time line based on which it was made.
- Addition of operating revenues: The first part is the addition of all the operating revenues, which means the revenue generated by the company by selling its products or services
- Addition of operating expenses: The next part is the addition of the operating expenses, where all the expenses related to the cost of goods sold, salaries, advertising and office rent along with supplies are added to arrive at the operating expense.
- Calculation of gross profit: To arrive at the gross profit number, the cost of goods sold is deducted from the net sales.
- Calculation of operating income: The operating expense earlier calculated is subtracted from the gross profit, and the resultant is called as net operating income or income from operations.
- Addition of non-operating revenue and expenses: Below the calculation where we have shown our operating activities; we need to create another section of the non-operating part where all the non-operating expenses, revenues, gains and losses are added to arrive at a final resultant.
- Calculation of Net Income: Here, the final task is to add our operating income to the non-operating items and the resultant is shown as the bottom line of our income statement of the net income for the period.
Example of Multi-Step Income Statement
An example of the multi-step income statement is attached in the form of an excel file where we start with the sales turnover of $200,000 and arrive at the gross profit of $150,000 by deducting the cost of gold sold of value $50,000. The total operating expense of the business stands at $19,000, and thus to arrive at the operating income, we deduct the operating expense from the gross profit to arrive at a value of $131,000. The total non-operating values are then added, which brings us to an estimated sum of $33,000. Finally, to arrive at the net income, we add both the operating income and non-operating income to arrive at the value of $164,000.
| ABC Ltd. | |
| Income Statement | |
| For the period ending March 31, 2020 | |
| Sales | $2,00,000 |
| Cost of goods sold | $50,000 |
| Gross Profit | $1,50,000 |
| Operating Expenses | |
| Selling Expense | |
| Administrative Expense | $5,000 |
| Commission Expense | $10,000 |
| Administrative Expense | |
| Office Supplies Expense | $1,000 |
| Office Equipment Expense | $3,000 |
| Total Operating Expense | $19,000 |
| Operating Income | $1,31,000 |
| Non-Operating Items | |
| Interest Revenue | $30,000 |
| Gain on sale on investments | $5,000 |
| Interest Expense | ($2,000) |
| Loss from lawsuit | (-10,000) |
| Total Non-Operating | $33,000 |
| Net Income | $1,64,000 |
Components of Multi-Step Income Statement
The components of a multi-step income statement are as follows:
- Operating Head – Gross Profit: This is the first section of the income statement and is obtained by deducting the cost of goods sold from net sales. It represents how much profit is earned by the company in the process of producing or selling its goods and services.
- Operating Head: Selling & Administrative Expense: These gets captures in the second phase of the income statement. Selling expenses are the cost incurred to sell the product to customers and shall also include advertising expenses. Admin expenses are indirect expenses which are related to the selling of goods and services and will include the salary and rental expenses. The addition of both gives the operating expense, and when we deduct the same from the gross profit, we arrive at the operating income.
- Non-Operating Head: The last part includes the non-operating expenses, revenues, gains and losses, which, when added to the operating income, gives us the resultant as the net income for the period.
Uses of Multi-Step Income Statement
The use of a multi-step income statement is as follows:
- When we want to understand the in-depth analysis of the financial performance of the business.
- Potential investors and creditors may ask for such statements to get a detailed insight into the gross profit and operating income.
- For some public-traded corporations, it is a must to declare the breakups to get a detailed insight into their performance.
Advantages of Multi-Step Income Statement
Some of the advantages are given below:
- It provides detailed insight into the breaks involved in the calculation of net income.
- It shows the gross profit and the gross profit calculation part.
- One can get a break up of the operating and non-operating components of the business.
- Itemized breakdown of all expenses and revenues.
- One can calculate the gross profit margin of the company.
Disadvantages of Multi-Step Income Statement
Some of the disadvantages are given below:
- It makes the preparation of the income statement a bit lengthier and time-consuming.
- It might confuse the user about so many breaks and subtotals to arrive at the final number or the bottom line.
Conclusion
As discussed above, we saw how multi-step income statements are useful for investors and creditors to get a detailed insight into a company’s financial performance and the pros and cons of using it. The example attached also helped us to understand the different components used in such a statement.
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