What is Net Income?
Net income is the amount of accounting profit a company has left over after paying off all its expenses. Net income is found by taking sales revenue and subtracting COGS, SG&A, depreciation, and amortization, interest expense, taxes and any other expenses.
Net income is the last line item on the income statement proper. Some income statements, however, will have a separate section at the bottom reconciling beginning retained earnings with ending retained earnings, through net income and dividends.
Why is net income important?
Although many small businesses don’t start calculating their profitability until they’re forced to by a lender or investor, keeping track of your net income is one of the best ways to monitor the financial health of your business.
If your net income is increasing, you’re probably on the right track. If it isn’t, it might be time to cut costs.
It’s also an important metric for your lenders and investors. Lenders want to make sure you have enough money to pay back all of your debts. Investors want to know how much money the business will have leftover to pay dividends, reinvest in the business, or set aside for a rainy day.
Net income formula
Net income is your company’s total profits after deducting all business expenses. Some people refer to net income as net earnings, net profit, or simply your “bottom line” (nicknamed from its location at the bottom of the income statement). It’s the amount of money you have left to pay shareholders, invest in new projects or equipment, pay off debts, or save for future use.
The formula for calculating net income is:
Revenue – Cost of Goods Sold – Expenses = Net Income
The first part of the formula, revenue minus cost of goods sold, is also the formula for gross income. (Check out our simple guide for how to calculate cost of goods sold).
So put another way, the net income formula is:
Gross Income – Expenses = Net Income
Or, if you really want to simplify things, you can express the net income formula as:
Total Revenues – Total Expenses = Net Income
Net income can be positive or negative. When your company has more revenues than expenses, you have a positive net income. If your total expenses are more than your revenues, you have a negative net income, also known as a net loss.
Using the formula above, you can find your company’s net income for any given period: annual, quarterly, or monthly—whichever timeframe works for your business.
How to Find Net Income
Net Income is often calculated by a company when it generates its quarterly or annual income statement, on which the net income is usually featured at the bottom, which is how the term gets its nickname of “bottom line.
If a net income is not shown for some reason, it is easy to calculate using the equation above.
Net income formula: an example
Let’s say Wyatt’s Saddle Shop wants to find its net income for the first quarter of 2021. Here are the numbers Wyatt is working with:
- Total revenues: $60,000
- Cost of goods sold (COGS): $20,000
- Rent: $6,000
- Utilities: $2,000
- Payroll: $10,000
- Advertising: $1,000
- Interest expense: $1,000
First, Wyatt could calculate his gross income by taking his total revenues, and subtracting COGS:
Gross income = $60,000 – $20,000 = $40,000
Next, Wyatt adds up his expenses for the quarter.
Expenses = $6,000 + $2,000 + $10,000 + $1,000 + $1,000 = $20,000
Now, Wyatt can calculate his net income by taking his gross income, and subtracting expenses:
Net income = $40,000 – $20,000 = $20,000
Wyatt’s net income for the quarter is $20,000