Definition: The common-size income statement is a financial statement that expresses all items as a percentage of total revenues, so it’s simple to compare and analyze companies within an industry.
What Does Common Size Income Statement Mean?
What is the definition of a common size income statement? The common-size income statement is generally used in financial statement analysis to compare companies that operate in the same or different industries or to compare time periods of the same firm.
Furthermore, it enables financial analysts to identify the relationship between the various accounts of the income statement and the total revenues and how they affect the total profitability. From an investor’s perspective, a common-sized statement provides a clear picture of the expenses, which are deducted from the total revenues to generate the net income.
Let’s look at an example.
Theo is an accountant in a manufacturing company. He is asked to prepare a common-sized profit and loss and discuss with his manager what actions should be taken, if any, to improve weak areas.
Theo prepares the following common-size P&L for the fiscal year 2015 and by performing a vertical analysis, he identifies which items in the profit and loss affect the firm’s profitability.
Theo notices that the cost of goods sold accounts for 67% of the total revenues, suggesting that the company has high overhead, direct labor, and direct material costs. Moreover, the company does not manage its inventory levels efficiently.
Furthermore, the selling, general and administrative expenses (SGAs) account for 11% of the total revenues, which compared to other manufacturing companies, is a high percentage. The company should consider lowering the SGAs.
Using this statement, financial analysts and accountants identify changes in a firm’s financials, such as an increase or a decrease in an item, that affects the reported profits. For example, a company that increases its revenues at a slower rate than its expenses should identify how the items in the P&L are changing.
Define Common-Size Income Statement: A common sized income statement is a profit and loss statement that lists individual accounts as a percentage of total revenue to make it easy to compare and analyze different companies.