The income statement : Difference between earnings and revenues

let’s catch up with the terms ‘Earnings’ and ‘Revenues’- two totally different terms which may baffle a naive financial analyser.

EARNINGS

Earnings means – Profits. It’s that simple.

Now, in business, there are different names for it. The most popular being “bottom Line” and “net income”. It’s similar to the term “net pay” or “net income” or “net earnings” or “net salary” or “take home pay” on your pay slips. Just like your take home pay, earnings are the “take home pay” of a business. It represents how much money the company has left over, if any, after it’s paid the costs of doing business — payroll, raw materials, taxes, interest on loans, etc. Earnings are arguably the ultimate measure of growth of a business. Analysts want to find companies that are growing their earnings because this is what they keep after they’ve paid their bills. That’s why “earnings results” reports each quarter are eagerly awaited by stock investors.

REVENUES

Revenues means – The total amount of money a company receives from sale of goods and services (i.e. receipts BEFORE deducting all expenses). It’s also called “top-line” or “Total sales” or “gross income”. It’s similar to the term “gross pay” or “gross earnings” on your salary slip. If you take an income statement, revenues or sales will be displayed on the left hand side of the statement ( Horizontal format) or on top of the statement ( vertical format). When you deduct all the expenses from revenues the resultant figure is called earnings. Arguably, top-line growth is more important, but also a more misleading figure than bottom-line growth. It’s more important in the sense that any earnings growth is going to have to come from revenues. But it’s misleading because on its own it doesn’t tell you what the company is actually making in profits. (Since the numbers don’t reflect what the business has to pay out in expenses).

FORMS OF EARNINGS

We discussed earlier about earnings. It’s a company’s “profit.” The real issue is what goes into that income number. There are many flavors: EBT is earnings before taxes, EBIT is earnings before interest and taxes, EBDIT is earnings before depreciation ,interest and taxes, EAT is earnings after taxes and EBDITA means earnings before interest, taxes, depreciation and amortization. In other words, incomes before those costs have been subtracted.

MEASUREMENT OF EARNINGS -EPS

EPS is earnings per share, or the part of the company’s profit that is attributed to each individual share of stock. EPS is a good indicator of a company’s profitability, and is a very important ratio to look at while evaluating a certain stock.

HOW IS IT CALCULATED?

The formula for EPS is below.
(Net income – Dividends on Preferred Stock) / (Average Outstanding Shares)
In Beginner’s lessons- Fundamental analysis we have given  the formula (Net income – Dividends on Preferred Stock) / Outstanding Shares).You may wonder why “average outstanding shares” is used as denominator instead of outstanding shares . The reason is that EPS is reported over a certain period of time, and the number of outstanding shares will likely fluctuate in that period, so you can get a more accurate result by using the average number of outstanding shares.

WHY IS IT IMPORTANT?

EPS is considered by most investors to be the single most important ratio to use when evaluating a stock. However, some aspects of EPS can be misleading when comparing two different companies. For example, one company could use twice as much capital to generate the same amount of profit as another, but it is obviously not utilizing its capital as efficiently as the other company. However, these numbers are not reflected in the EPS, so it is important to remember that EPS alone doesn’t tell the whole story.

POINTS TO NOTE

When you analyse a company for it’s EPS, keep these points in mind:

  • You should always compare earnings growth relative to previous years / quarters. A steady increase in earnings per share is a good indicator of genuine growth and reduces the possibility that the company just had one great quarter which might not be sustained in the future.
  • Current quarterly earnings per share – Earnings must be up at least 10-20%.
  • Annual earnings per share – These figures should show meaningful growth for the last five years.
  • With that we complete our discussion on the difference between earnings and revenues. I said that quarterly earnings results influence stock prices. But Why? Why do results for a single quarter cause so much mayhem?
    To know the answer, you have read one more simple article: More about earnings quarter.

    Bye for now, have a nice day!

You may like these posts:

  1. The Income statement: Profits
  2. The Income statement : Basics
  3. Understanding Earnings Per Share (or EPS)

5 Responses to “The income statement : Difference between earnings and revenues”

Understanding Earnings Per Share (or EPS) | Share Market School

December 4, 2010 at 10:47 am

[...] Understanding ‘Revenues’ and ‘Earnings’ [...]

Donte

November 4, 2011 at 7:51 am

A good many valubaels you’ve given me.

saravanan ps

June 11, 2012 at 11:07 am

one of the great article i read recently.. thanks Mr. victor

Mohammad Edris

June 2, 2013 at 10:23 am

thanks for very good typic i like it

jerry

November 24, 2013 at 1:46 am

Mr. victor: your response to my question was both to the point, and comprehensive.

thank you very much

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