The Finance Professor: How to Read an Income Statement

Operating Income

When we subtract total income (revenues plus sales) from total operating expenses, the difference represents operating income. This amount tells us how successful or not a company has been in executing its business plan to profitably sell its products and services.

Interest

Next to be presented in the income statement is the interest section. There are two types of interest: revenue and expenses. Most companies will net these two interest streams together and present them as "net interest." On the other hand, some companies, including banks, broker-dealers and financial institutions such as Citigroup C and Merrill Lynch MER, which rely on interest as one of their core revenue streams, will present net interest as a part of revenue, thus incorporating those items within their operating income.

When we take operating income and subtract net interest (or other items), we will arrive at earnings before income taxes (or EBIT, which should not be confused with EBITDA ). As I mentioned in an earlier article, Ben Franklin was quoted as saying, "In this world nothing can be said to be certain, except death and taxes." This holds true for the corporate world as well. Thus, we must next calculate the provision for income taxes and present it in the income statement. This leads us to another aspect of the real world that must be explained.