ACCT321, Intermediate Accounting I, Ch. 4, Notes
Format of a Multi-Step Income Statement
Heading:
Company Name
Income Statement
(also known as Stmt of Earnings, Stmt of Income, or Results of Operations, etc.)
For Year Ended (or month or quarter ended)
OUTLINE (MULTI-STEP)
DETAIL
Net Sales
Gross Sales
-Sales Returns, Allowances, Discounts
=Net Sales
-Cost of Goods Sold (COGS)
(also called cost of sales or revenue)
Beg. Inventory
+Net Purchases ------------->
+Transportation In
-End. Inventory
Gross Purchases
-Purchase Returns, Allowances, Discounts
=Net Purchases
=Gross Profit
-Operating Expenses
Selling Expenses
General & Admin. Expense
Other Operating Expenses
=Income from Operations
(Note: Very often, financial analysts like to put a subtotal in here known as EBIT or earninge before interest expense and taxes)
+/- Other Items - not normal operations
Other Income & Expenses
Other Gains & Losses
[Unusual or infrequent items, but not both}
[Gains/losses are incidental and peripheral]
- Income Taxes
All items below line are shown net of tax. All items above line are shown before tax.
** =Income from Continuing Operations**
** D +/- Discontinued Operations**
Income/Loss From Operations (net of tax)
Gain/Loss From Disposal (net of tax)
[Line of business or class of customers]
Show net of tax.
[Unusual in nature AND infrequent in occurrence]
[Six items are never X/O, unless from gov't prohibition or expropriation or
from major casualty (see below for details] NOTE: FASB had recently
removed the X/O classification, effective for fiscal years beginning after
Dec. 15, 2015. See end of this document for more information.
** =Income before X/O Items**
** E +/- Extraordinary Gains/Losses**
** = Net Income**
Optional: Comprehensive Income Add-on
(Stmt of Comprehensive Income can be separate from Inc Stmt)
+/- Other Comprehensive Income
[Foreign currency translation, unrealized gains/losses on investments, min. pension
liability, all net of tax. Opens door for fair value accounting.]
= Net Comprehensive Income
** Earnings per COMMON share for these items must be disclosed on the face of the income statement.
Heading:
Company Name
Stmt of Retained Earnings
For Year Ended (or month or quarter ended)
Beginning Balance
+/- Prior Period Adjustments (net of tax)
[Unintentional errors, math mistakes, oversights, misuse of facts, mis-classification]
+/- Cumulative effect of change in acctg principles [New rules (FASB#154) for fiscal years beg. after 12-15-06]
=Adusted Beg. Balance
+/- Net Income (Loss)
- Dividends Declared
= Ending Balance
NOTE: FASB had recently removed the X/O classification, effective for fiscal years beginning after Dec. 15, 2015.
See end of this document for more information.
WHAT IS CONSIDERED "EXTRA-ORDINARY" AND WHAT IS ORDINARY?
Event needs to be both unusual in nature AND infrequent in occurrence.
Extraordinary Items: Income Statement Presentation UP-6
EXTRAORDINARY ITEMS: INCOME STATEMENT
PRESENTATION
This section provides an introduction to the new guidance related to the
elimination of separate reporting of extraordinary items and the presentation
of unusual gains and losses. Replacement material is provided for the
discussion of this topic in Chapter 4 of the textbook.
Overview of Extraordinary Items
In January 2015, the FASB simplified income statement presentation requirements by
eliminating the concept of extraordinary items [Accounting Standards Update 2015-01—Income
Statement—Extraordinary and Unusual Items (Subtopic 225-20)—Simplifying Income
Statement Presentation by Eliminating the Concept of Extraordinary Items]. For an item to be
classified as extraordinary, it must be both unusual in nature and infrequent in occurrence.
Companies have difficulty applying the concept of extraordinary because it is often unclear
when a transaction should be considered both unusual in nature and infrequent in occurrence.
As a result, the concept of extraordinary items has been interpreted narrowly in practice so
companies rarely, if ever, report a transaction as extraordinary.
In addition, while users find information about unusual or infrequent transactions helpful,
they do not find the extraordinary item classification and presentation necessary to identify
these transactions. The FASB concluded that this new standard will not result in a loss of
information because the presentation and disclosure guidance for items that are unusual in
nature or that occur infrequently will be retained and will be expanded to include items that are
both unusual in nature and infrequently occurring. These changes are part of the FASB’s
simplification efforts and also contribute to international convergence, as IFRS does not include
the concept of extraordinary items.
Instructors may substitute the following material for the “Unusual Gains and
Losses” section in Chapter 4 (pages 169-170) in the textbook and then omit the “Extraordinary
Items” section (pages 173-175). With respect to end-of-chapter material, any extraordinary
items will be reported as Other gains and losses without net-of-tax treatment.
Unusual Gains and Losses
The following items may need separate disclosure in the income statement to help users predict
the amounts, timing, and uncertainty of future cash flows.
•
•
•
•
•
•
Losses on the write-down or write-off of receivables; inventories; property, plant, and
equipment; deferred research and development costs; or other intangible assets.
Gains or losses from exchange or translation of foreign currencies, including those
relating to major devaluations and revaluations.
Restructuring charges.
Other gains or losses from sale or abandonment of property, plant, or equipment used in
the business.
Effects of a strike, including those against competitors and major suppliers.
Adjustment of accruals on long-term contracts. [1]
Extraordinary Items: Income Statement Presentation UP-7
Illustration 4-6 identifies the most common types of unusual gains and losses reported in a
survey of 500 large companies. Note that more than 40 percent of the surveyed firms reported
restructuring charges, and nearly 60 percent of the companies reported write-downs or gains or
losses on asset sales.
ILLUSTRATION 4-6
Number of Unusual Items Reported in a Recent Year by 500 Large Companies
Items that are unusual in nature, infrequent in occurrence, or both should be presented within
income from continuing operations. These items should not be reported net of tax. The income
tax expense or benefit related to such items should be included in the total income tax or benefit
reported on the income statement.
For example, PepsiCo, Inc. presented an unusual charge in its income statement, as
Illustration 4-7 shows.
ILLUSTRATION 4-7
Income Statement Presentation of Unusual Charges
Extraordinary Items: Income Statement Presentation UP-8
Restructuring charges, like the one PepsiCo reported in Note 2 above, are common (see
also Illustration 4-6). A restructuring charge relates to a major reorganization of company
affairs, such as costs associated with employee layoffs, plant closing costs, write-offs of assets,
and so on.
The FASB takes the position that revenues and expenses, other revenues and gains,
and other expenses and losses should be reported as part of income from operations before
income taxes. Therefore, as indicated earlier, none of these items should be shown net of tax.
For unusual gains and losses, companies may show each gain or loss as a separate item on
the income statement before Income from operations before income taxes. Others will use
captions, such as “Other revenues and gains” or “Other expenses and losses,” and then itemize
them in these sections or in the notes to the financial statements. For homework purposes,
itemize gains and losses, revenues, and expenses that are not reported as part of the revenue
and expense sections of the income statement in the Other revenues and gains section or Other
expenses and losses section.
Discontinued Operations: Income Statement Presentation UP-9
DISCONTINUED OPERATIONS: INCOME STATEMENT
PRESENTATION
This section provides an introduction to the new guidance related to when and how
to report a discontinued operation. Replacement material is provided for the
discussion of this topic in Chapter 4 of the textbook.
Overview of Discontinued Operations
The FASB recently changed the definition of discontinued operations and expanded the
disclosure requirements for discontinued operations and for disposal transactions that do not
meet the discontinued operations criteria [Update No. 2014.08—Presentation of Financial
Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting
Discontinued Operations and Disclosures of Disposals of Components of an Entity]. The FASB
believes this new standard will:
1. Provide more decision-useful information. Under the new standard, the users of
financial statements will benefit from expanded disclosures that provide more
information about the financial results related to discontinued operations. In addition, the
previous standard permitted routine dispositions with small groups of assets to qualify for
discontinued operation reporting. As a result, the financial statements were not as
helpful from a decision-making point of view.
2. Reduce the cost and complexity related to the reporting of discontinued
operations. Companies indicated that implementation guidance related to discontinued
operations was difficult to apply. Companies want a more principle-based standard that
has less complexity.
3. Enhance convergence with international standards. The new standard is more in line
with IFRS 5, “Non-current Assets Held for Sale and Discontinued Operations.” Part of
the definition of discontinued operations in the new standard was based on IFRS 5.
Instructors may substitute the following material for the “Discontinued Operations” section in
Chapter 4 (pages 170-171, through Illustration 4-8).
Discontinued Operations: Income Statement Presentation UP-10
Discontinued Operations
A discontinued operation is reported when two things happen:
1. A company eliminates a component of the business. A component comprises operations
and cash flows that can be clearly distinguished, operationally and for financial reporting
purposes.
2. The elimination of a component that represents a strategic shift, having a major effect
on the company’s operations and financial results. A strategic shift generally includes the
disposal of (1) a major line of business, (2) a major geographical area, or (3) a major
equity method investment.
To illustrate, Softso has the following product lines that it manufactures and sells—
beauty care, health care, and baby care. Within these product lines, it has a total of 18 brands.
Each brand is considered a separate component because each brand comprises operations
and cash flows that can be clearly distinguished, operationally and for financial reporting
purposes. Each product line represents a major line of business. Softso decides to eliminate the
baby-care product line because it is suffering substantial losses. Softso should report the
elimination of the baby-care product line as a discontinued operation because the baby-care line
represents a major line of business and its disposal represents a major part of Softso operations
(a strategic shift).
On the other hand, assume that Softso decides to remain in the baby-care business but
will discontinue one brand in this product line because it is very unprofitable. Softso should not
report the elimination of this brand as a discontinued operation because it does not represent a
major part of the Softso’s operations (disposing of it is not considered a strategic shift).
As indicated, the reporting of a discontinued operation involves strategic shifts that are
substantial in nature. Here are some additional examples:
1. The sale of a product line that represents 15 percent of a company’s total revenues.
2. The sale of assets in a geographical area that represents 20 percent of a company’s
total assets.
3. The sale of a component that is an equity investment that represents 20 percent of a
company’s total assets.
Companies report as discontinued operations (in a separate income statement category) the
gain or loss from disposal of a component of a business. In addition, companies report the
results of operations of a component that has been or will be disposed of separately from
continuing operations. Companies show the effects of discontinued operations net of tax as a
separate category, after continuing operations. [3]
To illustrate, Multiplex Products, Inc., a highly diversified company, decides to
discontinue its electronics division. During the current year, the electronics division lost
$300,000 (net of tax). Multiplex sold the division at the end of the year at a loss of $500,000 (net
of tax). Multiplex determines that the electronic division discontinuation meets the strategic shift
criteria because the division is a major line of business (its assets exceed 20 percent of
Multiplex’s total assets). Illustration 4-8 shows the reporting of discontinued operations for Multiplex.