The term net income is best described by which of the following phrases

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NI flows through the balanced sheet through retained earnings, and through the cash flow in the indirect method.

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.

Source: Amazon SEC filing

Other Names for Net Income

The bottom line of a company’s income statement has three commonly used names, which include:

• Net Income
• Net Profit
• Net Earnings

All three of these terms mean the same thing, which can sometimes be confusing for people who are new to finance and accounting.

In this article, we use all three terms interchangeably.

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Ties to Other Financial Statements

The net income is very important in that it is a central line item to all three financial statements. While it is arrived at through the income statement, the net profit is also used in both the balance sheet and the cash flow statement.

Net income flows into the balance sheet through retained earnings, an equity account. This is the formula for finding ending retained earnings:

Ending RE = Beginning RE + Net Income – Dividends

Assuming there are no dividends, the change in retained earnings between periods should equal the net earnings in those periods. If there is no mention of dividends in the financial statements, but the change in retained earnings does not equal net profit, then it’s safe to assume that the difference was paid out in dividends.

In the cash flow statement, net earnings are used to calculate operating cash flows using the indirect method. Here, the cash flow statement starts with net earnings and adds back any non-cash expenses that were deducted in the income statement. From there, the change in net working capital is added to find cash flow from operations.

Profitability and Return on Equity

Net earnings are also used to determine the net profit margin. This is a handy measure of how profitable the company is on a percentage basis, when compared to its past self or to other companies.

Net profit margin is also used in the DuPont method for decomposing return on equity – ROE. The basic DuPont formula splits ROE out into three components:

ROE = Net Profit Margin x Total Asset Turnover x Financial Leverage

Analyzing a company’s ROE through this method allows the analyst to determine the company’s operational strategy. A company with high ROE due to high net profit margins, for example, can be said to operate a product differentiation strategy.

Net Income vs. Cash Flow

Net income is an accounting metric and does not represent the economic profit or cash flow of a business.

Since net profit includes a variety of non-cash expenses such as depreciation, amortization, stock-based compensation, etc., it is not equal to the amount of cash flow a company produced during the period.

For this reason, financial analysts go to great lengths to undo all of the accounting principles and arrive at cash flow for valuing a company.

To learn more, explore CFI’s financial modeling courses.

Additional Resources

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Net income (NI), also called net earnings, is calculated as sales minus cost of goods sold, selling, general and administrative expenses, operating expenses, depreciation, interest, taxes, and other expenses. It is a useful number for investors to assess how much revenue exceeds the expenses of an organization. This number appears on a company's income statement and is also an indicator of a company's profitability.

Net income (NI) is calculated as revenues minus expenses, interest, and taxes.

• Earnings per share are calculated using NI.
• Investors should review the numbers used to calculate NI because expenses can be hidden in accounting methods, or revenues can be inflated.
• NI also represents an individual's total earnings or pre-tax earnings after factoring deductions and taxes in gross income.

Net income also refers to an individual's income after taking taxes and deductions into account.

Businesses use net income to calculate their earnings per share. Business analysts often refer to net income as the bottom line since it is at the bottom of the income statement. Analysts in the United Kingdom know NI as profit attributable to shareholders.

Net income (NI) is known as the "bottom line" as it appears as the last line on the income statement once all expenses, interest, and taxes have been subtracted from revenues.

To calculate net income for a business, start with a company's total revenue. From this figure, subtract the business's expenses and operating costs to calculate the business's earnings before tax. Deduct tax from this amount to find the NI.

NI, like other accounting measures, is susceptible to manipulation through such things as aggressive revenue recognition or hiding expenses. When basing an investment decision on NI, investors should review the quality of the numbers used to arrive at the taxable income and NI.

Gross income refers to an individual's total earnings or pre-tax earnings, and NI refers to the difference after factoring deductions and taxes into gross income. To calculate taxable income, which is the figure used by the Internal Revenue Service to determine income tax, taxpayers subtract deductions from gross income. The difference between taxable income and income tax is an individual's NI.

For example, an individual has $60,000 in gross income and qualifies for $10,000 in deductions. That individual's taxable income is $50,000 with an effective tax rate of 13.88% giving an income tax payment $6,939.50 and NI of $43,060.50.

In the United States, individual taxpayers submit a version of Form 1040 to the IRS to report annual earnings. This form does not have a line for net income. Instead, it has lines to record gross income, adjusted gross income (AGI), and taxable income.

After noting their gross income, taxpayers subtract certain income sources such as Social Security benefits and qualifying deductions such as student loan interest. The difference is their AGI. Although the terms are sometimes used interchangeably, net income and AGI are two different things. Taxpayers then subtract standard or itemized deductions from their AGI to determine their taxable income. As stated above, the difference between taxable income and income tax is the individual's NI, but this number is not noted on individual tax forms.

Most paycheck stubs have a line devoted to NI. This is the amount that appears on an employee's check. The number is the employee's gross income, minus taxes, and retirement account contributions.