A common-size analysis of the income statement is carried out by:
- A. Dividing income statement items by revenue or in some cases, by total assets.
- B. Dividing income statement items by revenue only.
- C. Dividing income statement items by total assets only.
Here the option (a) is correct. Can someone explain why option (b) is wrong? Since in class for income statement sir told items should be represented as a percentage of Net revenue or Revenue and for B.S we use Total Assets.
Option B is incorrect because it suggests dividing income statement items by revenue only. This approach doesn’t provide a comprehensive picture of the income statement’s structure and performance. While it does normalize income statement items against revenue, it overlooks the impact of other factors such as expenses, taxes, and net income.
In a common-size analysis of the income statement, each line item is typically expressed as a percentage of total revenue. This allows for a better understanding of the relative proportions of each expense or income category in relation to the total revenue generated by the company.
Option A, which you correctly identified, offers a more thorough analysis by either dividing income statement items by revenue or, in some cases, by total assets. This allows for a deeper insight into the efficiency of resource utilization or the proportion of income and expenses relative to the size of the company’s asset base.