What is a common size income statement?

What is a common size income statement
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We’re pretty sure you haven’t heard about a common size income statement, because if you aren’t into accounting and all that finance stuff, it would stand to reason of you not knowing it. Because to be truthful, we didn’t know about it either and frankly, like many others, we think our time could be better used than reading about methods only old-timey accountants and people from the IRS know about. But, while we’re at it, we might as well explain what is a common size income statement and how you can calculate and make a common size income statement. 

First things first; this is going to get a lot technical, more than either of us like. A lot of technical jargon, industry specific words and concepts only reserved for the people mad enough to go to this side and earn a hefty pay check every week or month will be rife in this article.

But things will be kept simple, to the point and examples will only be given based on relevancy, because God forbid any one of us tries to understand the inner machinations of agencies like the IRS, who already have a pretty notorious reputation of being a Kafkaesque department, even more so than the security agencies of ours.

So, for the interest of keeping things relevant, lets start off by stating the one thing that should either make it for you or not relevant for your situation. A common size income statement is primarily used for businesses and financial establishments with a set criterion for profits and expenditures. Why is it exclusively used for and by businesses? Well, because households don’t turn out a profit in the literary sense, and a common size income depends on the total earnings to highlight the profit, which kind of defeats the purpose in a household and profit isn’t really visible (except that many financial advisors suggest this method to be used with the savings considered as profit).

Either way, this method is a go-to method for businesses and companies to simplify their reports for yearly earnings and profit, and for a household to use this method, well, it’s pretty uncommon.

The fact that households don’t use a common size income statement is evidence of the fact that they are very tricky to navigate through and are really irrelevant in the case of households, which usually operate on a fixed salary and do not inculcate in them the concept of profit or loss, just savings and expenditures. Now, onto what actually is a common size income statement and how can you make one.

What is a common size income statement?

Also known as the vertical analysis system, a common size income statement is a form of an income statement, wherein each detail, whether it is expenditure or profit or operating costs, is listed down, percentage-wise, from the total value of sales or revenue generated. Seem too much technical or difficult? Well, that’s what happened with us, but we’ll explain it further and will also include examples. Here goes,

So, the two things that you need to understand are the two factors that are the supposed hallmarks of the common size income statement. The first is the fact that in this type of income statement, the amount isn’t written or typed in dollars or any other currency for that matter. Instead, percentages are used, which make things rather easier, when it comes to finance and amounts and calculating how much was spent on expenditures and how much of the revenue was actually profits.

The second thing to consider for a common size income statement is the fact that these percentages are compared against the total revenue or sales figures. A good example will be that if the total sale was $2000, it will be stated as 100 per cent of the total revenue generated and if, out of that $2000, $1500 was the profit, it will not be written as the whole amount rather the percentage of the total revenue or 75 per cent.

This method makes it easier for people associated with the financial section to understand and gauge various aspects of the whole file without getting a calculator out; if a healthy percentage is stated under profit, the business is going good and vice versa. The common size income statement reduces the need for unnecessary calculations and last-minute changes as the values are written in percentages and they present the overall statement very concisely.

How to calculate common size income statement?

Calculating a common size income statement is pretty easy for people who know the arcane, black magic of getting a percentage from a simple calculator, because frankly, the rest of us need Google or another person really good at math’s to do that. And that’s all it really requires, a simple calculator and the formulae for calculating the common size income statement. 

You can start off by compiling all the data, beginning from the total revenue generated or sales, which for the sake of an example, is suppose $5000. This amount is your 100 per cent, which means that any or all items in the income statement are to be deducted from this 100 per cent (the $5000). 

Now, begin by identifying line items, or parts of a budget as identified by you. These could include profit, expenditures, operating costs, taxes, the whole shebang. These all will also have amounts; list them down and start getting their percentages out from the total and cumulative $5000; for instance, if the tax was $1000, that’s 20 per cent gone. If operating costs equaled another $1000, that’s up to 40 per cent and finally, expenditures were another $1000, coming up to a grand total of $3000 as the total cost, making up 60 per cent of the revenue. Since the rest is the profit, therefore, it can be converted into a percentage of 40 per cent; which would bring out the equation as,

100 per cent ($5000), out of which 60 per cent ($3000) for total expenditure and 40 per cent ($2000) as profit. Now, at a glance the performance is visible and can be seen and gauged without the need for people to start scratching their heads and taking out their calculators.

How to make a common size income statement?

Making a common size income statement is the same as calculating one, the only difference is that making involves Microsoft Excel, while the calculating part involves, well, a calculator. The rest of the procedure is the same; you start by the total revenue generated or sales acquired, convert it into percentages and start subtracting out the different amounts, converting them into percentages out of the 100 per cent that was the total revenue.

Then, list it all down, starting with the revenue and ending with the profit, with the percentages (out of the total revenue’s 100 per cent) listed right beside the list items. This completes the common size income statement; you can now brag to whoever you want that you mastered a somewhat complicated-sounding piece of financial logging and reporting, if that’s your thing. We wouldn’t suggest it because well, people don’t really look at it as a very sociable skill. But that’s just us. See? That wasn’t so hard now, was it?.

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