Revenue, expenses & costs

Two words show up everywhere in accounting: revenue and expenses. They’re the money a business earns and the money it spends. Get these two straight and the Income Statement, the report that says whether you made a profit, reads like a simple subtraction.

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Revenue: the money you earn

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Revenue is the amount a business earns from doing what it does: selling a product, providing a service, charging for a subscription. A business recognizes revenue when it earns it. That moment may differ from the moment cash arrives. Picture a bakery. Every loaf it sells brings in revenue. Add up a day’s sales and that total is the day’s revenue. Everything else measures against that inflow. Revenue is about what you earned, not necessarily the cash sitting in your account today. Accrual vs. cash covers that difference. For now, think of revenue as money earned from the work.

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Expenses: the money you spend to earn it

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An expense is a cost a business recognizes in a period to keep running and earn revenue: rent, salaries, electricity, flour for the bakery. It may or may not involve a cash payment in that same period. Expenses are the fuel. You can’t sell bread without buying flour and paying the baker. The point of accounting is to know what they are, so you can tell whether the revenue was worth it.

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Cost: close to expense, but not identical

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People use cost and expense as if they mean the same thing, and in casual talk they nearly do. The distinction is small:

• A cost is what you pay for a resource: the price of acquiring it. Buying an oven for the bakery has a cost.
• An expense is a cost counted against the revenue of a period: the portion that’s “used up” in earning this stretch’s income. The flour baked into today’s bread is an expense today.

A cost becomes an expense once it’s used up in the work of earning revenue. The oven is a cost when you buy it. The slice of its wear-and-tear that helped make this month’s bread becomes an expense this month. “Cost” leans toward acquiring, and “expense” leans toward using up to earn revenue. Follow one bag of flour through the bakery and the whole chain falls into place:

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Why they matter to the Income Statement

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These two words are the entire engine of the Income Statement:

• Start with revenue: the amount recognized as earned.
• Subtract expenses: the costs recognized for that period.
• What’s left is profit (or, if expenses were bigger, a loss).

A month at the bakery, in one line: $$\underbrace{\$1{,}000}_{revenue} - \underbrace{\$700}_{expenses} = \underbrace{\$300}_{profit}$$ This is a simple view. Revenue minus expenses tells you whether the business reported profit or loss over a period. A full statement can group and present those amounts in more detail. That profit flows into equity. Earn a profit and, before any distributions to owners, the owners’ stake in the business grows. Run a loss and it shrinks on the same basis. This links back to Assets, liabilities & equity: the Income Statement is the story of how equity changed over a period.

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Next steps

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