1. Budgeted and forecasted income statement
Welcome back! In this video we will discuss the budget and forecast of the income statement.
2. Budgeted income statement
As a reminder, the main goal of the income statement is to determine whether or not there is a loss or gain.
The budgeted income statement tells us the expected profitability of operations for a period of time. Therefore it is the basis of determining the company's overall performance.
The budgeted income statement reports costs and revenues, allowing management teams to take action quickly.
3. Key metrics of the income statement
When budgeting the income statement, we naturally budget the key performance metrics on the income statement. First of all there is gross revenue or total earnings and net revenue or earnings a company keeps from its sales.
Secondly we have the profitability metrics such as gross and net profit. Gross profit is net revenue minus the cost of goods sold, net revenue is the profit after subtracting all expenses from the gross profit.
4. Budgeted cost of goods sold
A key metric in budgeting is the cost of goods sold.
Recall that Cost of goods sold or COGS is the cost of producing items sold by a company. Budgeted COGS estimates the material and labor for next year, and is a key metric to set the strategy of a company.
For example, if we expect lemon prices to increase, we should reflect that in the price of our lemonade. Our costs would increase because of a higher price for lemons, so if we wouldn't increase revenue we would decrease profitability of the company.
5. Forecasted income statement
Remember that financial forecasting is an estimation of future financial outcomes based on historical data. Similar to the balance sheet we can forecast based on current performance to see if we are going to reach our budgeted sales numbers.
We budgeted an annual sales number of $2000 for the lemonade stands, but halfway through the year we're already at $1200 in sales. Assuming the business will perform at the same level over the next six months, we assume we'll end the year with $2400 in sales.
6. Budget variance
Variance in financial budgeting compares actuals and budgeted figures, a key focus of actuals versus budget analysis. It indicates how well a company predicted income and expenses.
Two types of variance exist: favorable, where actual is better than budget, and unfavorable, where actual is worse than budget.
A favorable budget can appear when there is more budget than expected, or when there are less costs than expected, or a combination of the two. For unfavorable budgets, the reverse is true. In our example actuals surpassed budget by 400, enabling us to expand to multiple lemonade stands faster!
7. Let's practice!
Now let's go to the income statement.