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Video transcript

what I want to do in this video is to see if we can understand all of the different parts of kind of a a traditional income statement as we get into more and more complicated examples you'll see more and more complicated income statements but this is a good start so what I've done here is I've drawn the income statement for actually two businesses one is Ben's shoes and one is Jason's shoes and I did that because these are fundamentally the same business but they have a slightly different capital structure and we'll talk about what that means in a second but they're both shoe stores they they literally you know they buy shoes from shoe manufacturers they put them on their shelves and then customers come in and buy those shoes so the first line we're pretty familiar with it already this is the revenue this is the sales for each of these shoe stores in the case of a shoe store it's literally just going to be a measure of the cash that the customers are paying for the shoes you wouldn't have you know something like accounts receivables where people can pay months later most of it will just be cash cost of goods sold in this example we're just going to assume it to be the actual cost of a shoe if I sold a pair of hundred dollar shoes but I had to pay $50 to the shoe manufacturer for those shoes that fifty dollars would be the cost of goods sold so this hundred thousand dollars is actually the cost of the two hundred thousand dollars in in sales and when you just take the cost of goods sold from that revenue you get something called gross profit and really the focus of this is of this videos to try to share the distri and gross profit operating profit pre-tax income net income and so gross profit is the first time that you kind of think of profit and the reason why it's called gross is because we've just thought about the profit from selling that incremental shoe and sometimes some other costs are thrown in there sometimes advertising sometimes the caught some other costs associated with the store but for this example it's just the profit straight from selling that incremental shoe and that's why we call it gross since we haven't taken out other things yet then below that line we have all of the other expenses the expenses associated with running the store the kind of the overhead of running the store so we have the rent you have the salaries you have the depreciation and amortization maybe you're depreciating the cost of cash register in the shelves and whatever else and then you could have other things like utilities and you could see both been shoes and Jason shoes are completely identical up to this point they have the same revenue gross profit even the same expenses and so when you take all of these expenses out from the gross profits you take a hundred thousand - all of these and I've written all of the stuff that you subtract with parentheses out around them to show that these are expenses that these are negatives you get the operating profit and you see that both of these are the same number and that what operating profit tells you is how much profit is coming from the business it's before we think about how the business is structured it doesn't think about things like interest income from your bank account or interest expense on any loans you have it's from the business itself operating profit and since these are identical businesses they have the same exact operating profit where they start to diverge is below that line so above this line right over here is the income statement down here is the balance sheet and their balance sheets are identical except for Jason's shoes has a hundred thousand dollars in debt and Ben shoes has no debt so Ben has no interest expense while Jason does have a ten thousand dollar interest expense so it's about ten percent per year and that's why these two income statement start to diverge but notice we didn't put this expense up there because it has nothing to do with the operations it's dependent on how the operations were financed and so once you subtract that out then you actually have your pre-tax income and if we assume that we have to pay taxes this is how much we pay in taxes and this is actually the net income that goes to the owners of the company