Inflation Rate Formula and Its Economic Effects

Inflation Rate Formula and Its Economic Effects

An often used but little understood term in financial circles, inflation has been misinterpreted as a result or an effect of higher prices, but this is not the case.

The inflation rate formula is quite simple

You can fill these variables in by simply finding the CPI(Consumer Price Index) of the year you want to start with, and the CPI of the year you want to end with. Example, if you want to find the inflation rate from 1996 to 2000, simply go to the link we provided above, with the CPI of 1996 being the variable last year, and 2000 being this year. Then multiply your answer by 100 to get your percentage.

Inflation is a condition in a particular country’s economy where the amount of available currency outstretches the GDP figure for that country. This that is known as inflation, and higher prices are a result of this situation. Now that we have finished talking about the inflation rate formula, we can begin to talk about how inflation effects the economy as a whole.

This affects the Canadian investor by causing consumer pricing to rise

Thus leaving the investor with less money to invest with after buying groceries and filling their gas tank. This inability to invest also affects the stock market, leaving companies with less avenues of capital acquisition. For example, if the CPI levels rise considerably, markets such as the TSX can experience a lull in trading causing its index to drop. This could indicate that an economy is either stagnant or heading towards recession. Of course, this isn’t in the best interest of any country and if left unchecked, would lead to a wildly fluctuating market with tremendous risk such as the markets just before Black Tuesday, October 29, 1929. We have learned our lessons since and safeguards have been put in place to ensure that the market won’t bottom out like that again.

The Bank of Canada has a hand in setting inflation rates to accommodate the disparity of goods versus monetary availability. By monitoring the core CPI, the Bank of Canada arrives at the comfortable inflation numbers that will keep the economy on track and within good financial reason. If you are wondering, core CPI is a specific group of consumer goods not considered to be volatile. The term ‘volatile’ in this context is meant to refer to price fluctuation, not combustion. These volatile products would include such things as fuel, vegetables, fruit, tobacco products and mortgage interest.

In the 1980s, according to Statscan, the inflation rate was at 10%

This may seem minuscule, but a rate such as this can cause general consumer pricing to double in less than ten years. Luckily for Canadians, our inflation rate has dropped to less than 5%. With current mandates from the Bank of Canada to put the inflation rate at 3%, consumer pricing would take approximately 24 years to double. This presents a much more tantalizing prospect for the Canadian investor with long-term goals.

According to investing experts, inflation is not a bad thing. The Canadian investor has to be aware of certain factors in their investment, suppose McCain Foods has an offering of 100,000 shares with a rate of 4%. If the Canadian economy had an inflation rate of 3%, this would leave the prospective investor with a positive growth percentage of 1%. Not a bad investment. However, if the Canadian economy had an inflation rate of 5%, the prospective investor has started their investment in the red, not necessarily a good investment idea. But even in this situation, investment isn’t really out of the question. If you can ascertain that the economy is headed for a sustained surge down the road and you are thinking about long-term investment, it might be prudent to buy-in as your investment in the long run may achieve a positive growth outstripping the rate of inflation. This is dependent on when the economy will perform, for how long and how well versus the time length of your investment. Knowing about inflation is an important step to losing needless and ill-informed investment fear.

Here is an inflation calculator supplied by the Bank Of Canada, you can use this instead of using the inflation rate formula and manually calculating, although it is important to know HOW the rate of inflation is calculated and what influences it. View the calculator here.

Income Statement Format And Elements

Income Statement Format And Elements

Income statements provide an overview of how a company has performed over a given period of time. It indicates how revenue is transformed into net income and provides important insights into how effectively the management is controlling expenses. We will go over a basic income statement format, and some of the elements you should consider inside of it in this article. Keep in mind,with  some stocks like penny stocks you will have a hard time finding this information. It’s because they are not fully required to file such paperwork.

Income Statement Format

While the following section describes the common elements of income statements, the format of income statements will vary according to the complexity of business activities. Here is a very basic income statement example.
Income Statement Format

Elements Of An Income Statement

Revenue / Net Sales

Our first look into income statements we will briefly cover the revenue aspect. Revenue is classified as “revenue from primary sources” and “revenue from secondary sources”. Revenue from primary sources is also referred as “operating revenue”. For a manufacturer, revenue from the sale of manufactured goods would be its primary activity. Revenue from secondary activities would include the revenue or income generated from the non-operating activities. For example, interests received on cash investments, rent received from a vacant space, and gains on the sale of a long-term asset would all be recorded under this heading. It is important to differentiate revenues from receipts. As per the accrual basis of accounting, revenue is recognized in income statements when the sale takes place and not when the cash payment is made.

Cost of Sales

The cost of goods sold includes all the expenses that are directly related to the production process, or the core operations of the business like raw material cost, and direct labor costs. For example, the cost of goods sold for a car manufacturer would be the material costs for the parts that go into making the car along with the labor costs used to put the car together. The cost of selling the car would be excluded, as this expense does not directly contribute to the manufacturing process. While there are many ways of calculating cost of sales, the most basic way is to add the total purchases to the beginning inventory for the period and deducting the ending inventory. An efficient and integrated business process helps the management in controlling the cost of sales.

Gross Margin

This indicates the profitability of the core operations of the business. The level of gross margin varies across industries, as in a service company would have a higher gross margin compared to a manufacturing company. While a consistently high gross margin indicates that a company is well positioned to support its indirect expenses, a consistently low gross margin is an indicator of future liquidity problems.

Operating Expenses

This aspect of income statements includes expenses incurred by the company for running its operations during a given period of time. General administration expenses, selling and distribution expenses, research and development expenses, and depreciation are the major items of consideration. Interest paid on loans taken to finance the business operations, long-term loans, debentures are excluded from this line as this expense is the result of the management financing decisions and not the result of business operations. Maintaining low operating expenses without affecting the ability to compete with competitors is a crucial challenge for management.

Operating Income

Operating income reflects the profit generated by the normal and recurring business activities of the company and does not take into account the gains from non-operating activities, interest expenses and taxes.

Other Income / Expense

This includes income gained or expenses incurred due to transactions not related to the normal and recurring operating activities of the company. Items like interest and dividend income, profit or loss from the sale of fixed assets and restructuring expenses are all included under this heading.

Extraordinary Items

This includes one-time gains and losses incurred by the firm due to certain unforeseen events like natural calamities. Extraordinary income and gains are recorded as a separate line so that they don’t skew the company’s regular earnings.

Net Income

This income statements figure indicates the profitability of all the business activities during a given period of time. An investor should be very careful while analyzing this figure as negative net income does not always indicate bad performance and vice versa. Increases in certain expenses like restructuring expenses, or research and development expenses will have a negative impact on the net profit of the current year, however, benefits can be reaped in the form of increased profitability in the future of the business. Similarly, a positive net income may be due to window-dressing by the company or a manipulation of accounting methods used.

Key items to be considered while analyzing income statements:

Income statements reveal much more than the earnings of the company. They indicate the efficiency of the management in controlling expenses, and financing the business operations. Ratios such as rate of return on assets, investments and capital employed are the most commonly used ratios while analyzing a company. However, a novice investor should be very careful while analyzing the income statement of a company.

The following are some of the ways in which a company can manipulate its bottom line to project an image of healthy profitability using income statements:

The revenue figure for the current year can be inflated by advancing the sales of the following year.

– Altering other income like sales of fixed assets.– Changing the rate or method of depreciation.

– Capitalizing expenses like research and development and product promotion costs that are usually written-off in the year that they are incurred.

– A company can defer expenses like training, advertising, research and development for the following year.

Now that we have shown you a basic income statement format and some of its elements to consider, lets move on from income statement examples and read our article on actually analyzing these income statements, and how the elements are calculated. You can read these here.

Income Statement Example – Analyzing Elements

Income Statement Example – Analyzing Elements


To the diligent investor, income statements analysis provides important insight into how effectively management is controlling expenses

Ratios are used to make rate comparisons of elements and data recorded on the statement. In our previous article about the format of an income statement, we showed you a basic income statement example. We will now bring that income statement to life by calculating some of the elements contained in it.

Income Statement Analysis

The first line of any income statements includes total sales revenue generated by a business during the time period specified in the heading. The expenses the company incurred in making those sales, or the cost of goods sold, is listed next and then deducted from revenue to give the gross profit figure.

That is pretty basic and simple, however we want to stay ahead of all these simple things on the income statements so they don’t pile up to make a complicated and confusing matter of this entirely straight-forward analysis procedure.

Gross Profit Margin (GPM)

Gross profit margin is a percentage ratio measuring production and distribution efficiency. Simply calculate the percentage of revenue that remains after subtracting cost of goods sold. A higher GPM than a competitor or industry standard means the company is more efficient. Usually this number will remain consistent over time, sudden large or irregular variations are reason for concern about accounting irregularities.

Operating Expense

Operating expense is the next income statement section. This consists of employee payroll, costs of research and development and miscellaneous charges to a company’s income. An investor will want to put money into management that keeps close control over operating expense, keeping it low without hindering the underlying business. Operating income or operating profit is income a company generates from its own operations only, and does not include income from investments or unusual extraneous revenues.

Operating Profit Margin (OPM)

Operating profit margin is another measure of management efficiency included on income statements, comparing quality of a company’s operations to its competitors. Higher operating margins than the industry average indicates more flexibility or a broader range in determining price due to lower fixed costs and better gross margins.

Interest expense is the cost of borrowing money to build plants and offices, purchase inventory, or fund day-to-day operations. The borrowed money is converted to an asset on the balance sheet, but the actual interest paid is an expense because the company does not receive an asset for it. The cost of borrowing must be reported on the income statement as interest expense.

Interest Coverage Ratio (ICR)

Interest coverage ratio is a measure of the debt burden of a company. The number of times a company could make its interest payments from before tax and interest earnings. A heavy debt burden is indicated by a low ratio.

Be sure to look at these items on the income statements when reviewing a company as a potential investment, and if you need a refresher on what an income statement looks like, view our income statement example in our previous article here.