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How to Read an Income Statement
Revenue to net income, line by line — and which lines actually matter.
The income statement (a.k.a. profit & loss) answers one question: did this company make money over the period, and how? Every line is either revenue or a category of cost. Read top-down.
The five lines that matter
- Revenue — what customers paid. Watch growth rate year-over-year, not the absolute number.
- Gross profit — revenue minus cost of goods sold. Divide by revenue to get gross margin; this is the purest signal of pricing power.
- Operating income — gross profit minus SG&A and R&D. This is what the core business actually earns before financing and taxes.
- Net income — what's left for shareholders. Beware one-off items (write-downs, tax benefits) that distort it.
- Diluted EPS — net income divided by share count including future dilution. The number Wall Street tracks.
Red flags
- Revenue growing but gross margin shrinking → discounting / loss of pricing power.
- Operating income growing slower than revenue → cost discipline slipping.
- Big gap between net income and operating income → financial engineering or one-offs.
- EPS growing while net income flat → buybacks doing the work, not the business.
What QuantFlow does with this
The Quality and Growth scores both feed off these lines: gross margin and operating margin go into Quality; revenue and EPS year-over-year deltas go into Growth. When you see a stock with a high Growth score and a low Quality score, it usually means revenue is climbing but margins aren't — exactly the gap this lesson teaches you to spot.