Net Income Definition
Net income is also known as net profit which is used to measure the total revenue amount that exceeds total expenses. In order words, it shows, how much revenue left after the payment of all the expenses of the business. Net income is the amount which a company can save to pay off debt or for the investment in the new projects. This measurement is at the bottom of the income statement because of which many people prefer this as the bottom line.
Investor, creditors, and management focus on the net income calculation. Because of this calculation, they can know the financial health of the company and the ability of the company to manage its assets. Investors want to find that they can pay the dividend on their investment or not. Whereas creditors want to know that the company has the ability to pay off current debt with success operations or not. Management analyzes the ability of the company to pays salaries and bonuses to its employees by using this ratio.
Formula of Net Income
Net income formula can be calculated by subtracting the total expenses of the business from the total revenue.
Net Income = Total revenue – total expenses
From this equation management, investors, and creditors find the ability of the company to producing the profit.
If the revenue is not in the income statement then instead of revenue we can use net income from the gross profit. You have no need to subtract the cost of goods sold twice. Instead of revenue, you can use total revenue. Because of the simplicity of this equation, you have no need to use the net income calculator for this.
To understand net income in a better way we use the example calculation.
Net Income Example
There is the database and server technology company of Andrew. Form different medical companies he manages the security, data, and server. From this, he makes the high revenue with fewer expenses. List of expenses for 1year listed in the income statement is
- Revenue = 200,000 dollars
- Computer expenses =10,000 dollars
- Salaries =50,000 dollars
- Utilities = 5,000 dollars
- Taxes = 2500 dollars
From the above figure Andrew calculate his net income. Total expenses calculated by adding all the above expenses of salaries, utilities, and taxes which is equal to 67,500 dollars.
132,500 = 200,000 – 67,500
From the above result, it is clear that Andrew gets the revenue of 132,000 dollars which is the total profit of Andrew. If the revenue value is less then expenses value then company is in the loss. For example, in the above equation if the company have the profit of 50,000 dollars which is less then the 67,000 dollars it means that company has the loss of 17,500 dollars.
If the net income is high then it is favourable for the business because this profit may be used to pay off current debt and for new investment.
Some company pays tax according to the profit because of which management reduce the profit on the tax basis to reduce the taxable income. due to this reason company have the book to tax adjustment at the end of each year. For the reflection of the tax, management adjusts their book income to get an advantage. For an instant, there are some companies Which use FIFO for the book purpose and LIFO for the purpose of tax for showing the reduce income on the tax return.
If the company shows the less income in order to pay the less amount as a tax on income, then the company have the problem to show high income to shows for the approval of the loan to the bank. To overcome this problem there are some revenue recognition rules which may be used.
For more Financial Ratio Check:
Margin of safety
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