11111 Intermediate Accounting, Ninth Edition Kieso and Weygandt Prepared by Catherine Katagiri, CPA...

11111

Intermediate Accounting, Ninth EditionIntermediate Accounting, Ninth Edition

Kieso and WeygandtKieso and Weygandt

Prepared byPrepared by

Catherine Katagiri, CPACatherine Katagiri, CPA

The College of Saint RoseThe College of Saint Rose

Albany, New YorkAlbany, New York

John Wiley & Sons, IncJohn Wiley & Sons, Inc..

Chapter 4: Income Statement and Related Information

After studying this chapter you should be able to:After studying this chapter you should be able to:

• Identify the uses and limitations of an income statement.

• Prepare a single-step income statement.

• Prepare a multi-step income statement.

• Explain how irregular items are reported.

• Explain intraperiod tax allocation.

• Explain where earnings per share information is reported.

• Prepare a retained earnings statement.

• Explain how other comprehensive income is reported.

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Income Statement

• Income StatementIncome Statement

– This statement is also known as the results

of operations.

– Used to predict amount, time and certainty

of future cash flows.

– Used to help users determine the risk of

NOT achieving particular cash flows.

– Used to evaluate routine performance.

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Income Statement

• Income statementIncome statement

– Used to assess likelihood of repayment to creditors.

– Accrual based.

– Limitations:

» Historically based information.

» Only quantifiable information included.

» Quality of earnings must be assessed.

• Manipulation of income is possible (GAAP, intentions).

• Use of liberal (aggressive) accounting policies report higher

income numbers in the short run. Quality of earnings would be

low.

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Income Statement

• Capital maintenance approachCapital maintenance approach to net income:

– Assets less liabilities equals owners’ equity (residual).

– Change in the assets less the change in the liabilities

equals the change in the owners’ equity. If you add

dividends to this change and subtract investments you

have the concept of comprehensive income.

– Detailed information on the calculation of net income is

not present.

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• Transactions approachTransactions approach to net income

calculation (GAAP).

– Net income = Revenues less Expenses

– Please see page 149, test, for elements of

the income statement.

Income Statement

Revenues

Gains

Expenses

Losses

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Income Statement

Income from operations is

very important! It would be

expected that this item

would be the “heart” of the

business-normal, routine-

and would continue to

occur from one period to

the next.

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Income Statement Format

Single-step statement (page 150, text)

– Income is calculated in one step, little detail provided.

– No gross profit figure is calculated.

– Revenues and gains are reported as a group.

– Expenses and losses are reported as a group.

– Simple; no indication of priorities.

– Often provided for those who do not wish a great

amount of detail but want just the “bottom line”.

– Same presentation (as the multi-step format) of

extraordinary items, discontinued operations and

changes in accounting principles.

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Multi-step statement (page 153)

– Greater detail.

– Gross Profit figure is calculated (most indicative

of the multi-step format).

– Revenues and gains are presented separately

by source (operations, other).

– Expenses and losses are presented separately

by source (operations, other).

– Manufacturers use the cost of goods

manufactured to replace the purchases figure

within the cost of goods sold calculation.


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Single-step and multi-step statements: The

presentation of extraordinary items,

discontinued operations or accounting

principle changes is the same.

• Condensed statements of income are found

which follow the multi-step format with detail

contained in supporting schedules (page 154,

text).

• Both Single and Multi-step formats are GAAP.

Both yield the same net income figure. It is a

matter of form not substance.

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• What should be included on the current period’s

income statement? There are 3 schools of thought:


Current operating performance.Current operating performance. This school would have

all usual items that affect income and have their

origins this period included in the income calculation.

Items from prior periods or unusual items would be

excluded from the current income calculation.

All-inclusive.All-inclusive. This school would have all items that

effect income included in current net income

regardless if they had their origins in prior periods or

were unusual in nature.

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Modified all-inclusive. Modified all-inclusive. Adopted by APB #9. States

all income items should be reported on the income

statement, current operations, except for the

following items:

Prior period adjustments (PPA). These flow

directly to the statement of retained earnings,

net of tax, as an adjustment to the beginning

balance.

Disposal of a segment of a business

(Discontinued operations--Appendix).

Extraordinary items.

Cumulative effect of a change in accounting

principle.

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The specified items, excluding Prior Period

Adjustments, are to be presented on the current

period income statement after income from

continuing operations (net of tax). The specified

exceptions are each given their own line and are

presented net of their tax effect. The order is (if

present)

– Disposal of a segment

– Extraordinary items

– Cumulative Effect of a

Change in Accounting Principle


1414

Reporting Irregular Items

• Extraordinary items: APB #30

– For events that affect income to be considered

extraordinary items the following criteria must be

met (BOTH)

» Unusual in nature

» Infrequent in occurrence

– The APB gave specific examples (page 157) of

those items which were NOT extraordinary items.

The definition of an extraordinary item was meant to

be very restrictive!

1515

– What non-extraordinary items have in common is that they

are to to some degree under management control:


Foreign currency

transactions.

Write-down of inventory,

receivables.

Asset exchanges.

Labor strikes.

Change in long-term

accruals.

Disposal of a segment.

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– If items are unusual in nature or infrequent

in occurrence but not both they should be

listed in the “other” section of revenues or

expenses.

– Specific items which have been designated

extraordinary items are:

» Gain or loss on the extinguishment of

debt (issuer).

» Expropriation by a foreign government.

» Acts of God.

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• Prior Period Adjustments: FASB #16

– Treatment is to adjust the beginning balance of Retained Earnings rather than have the item reflected on the income statement of any period (unless comparative statements are presented).

– Prior Period Adjustments are

» The correction of errors (mistakes, omissions)

» To account for the effect of operating loss tax

carryforwards of purchased subsidiaries.

» Reported net-of-tax.

» We will deal with the correction of errors

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– For example: You “forgot” to depreciate a

building last period ($20,000, tax rate is

20%)

To adjust:


Adjustment Account 20,000

Accum. Deprec. Building

20,000

RE 16,000

Tax Asset (refund) 4,000

Adjustment Account 20,000

1919

• Occurs when an entity discontinues clearly separable

operations, not just a disposal of assets incident to

operations.

– You must define the segment, assets, method of

disposal, time periods involved, estimates of

income between dates available, estimated salvage

value of assets, etc.

– Measurement date-Date the contract signed.

– Disposal date-Date operations close and assets

sold.

Discontinued Operations

2020


• Case #1 Measurement and disposal date the same day:

– All figures are known and are within the same accounting

period.

Presentation:

Income from continuing operations, after taxes XX

Discontinued Operations:

Gain/Loss from operations, less taxes XX

Gain/Loss on disposal, less taxes XX XX

Net Income XX

2121

• Case #2 Measurement date and disposal date are

different days but within the same accounting period.

– All facts are known by the end of the

accounting period.

– You must separate the results of

operations from the beginning of the

period to the measurement date from the

results of operations between the

measurement and disposal dates.


2222


Presentation Case #2:




Gain/Loss on disposal, including

operating G/L and G/L on

disposal of assets, less taxes XX XX

Net Income XX

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• Case #3 Measurement date and disposal date are different

and not in the same accounting period

– Use of estimates is required as all is not known

by the end of the accounting period. Any

changes are treated as changes in estimates.

– If losses are expected recognize immediately.

Expected gains may be recognized to the

extent of anticipated losses but no further.

Realized gains are recorded in the period they

occur. Follow conservatism!


2424


Presentation Case #3:




Gain/Loss on disposal, including

estimated operating G/L and estimated

G/L on disposal of assets, less taxes XX XX

Net Income XX

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• Cumulative Effect of a Change in Accounting Cumulative Effect of a Change in Accounting

PrinciplePrinciple

– Covered in Chapter 23 so we will be brief here!

– Two types:

» “Usual” or “common” type Report using the

new principle in the year of change. Any effect

on income of changing the principle on prior

years is reported in the current year, net of tax

after extraordinary items. For example,

changing from Straight-Line depreciation to

Declining Balance for your assets. Enhances

consistency over comparability.


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» “Unusual” or “specified exception” Restate financial

statements of all periods presented. For periods not

presented that the change affects, restate the

beginning balance of RE for the first year presented.

Enhances comparability over consistency. For

example: Changes in accounting method for long-

term construction contracts.

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Intraperiod Tax Allocation

• Intraperiod Tax AllocationIntraperiod Tax Allocation

– The concept that items are presented on financial

statements with their related tax effects attached to

them.

– Tax expense is allocated within the period to the items

that helped give rise to it.

– We have seen this with the tax attached to:

Operations

Discontinued operations

Prior period adjustments

Extraordinary items

Changes in Accounting Principles

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• Earnings per share (EPS) Chapter 17Earnings per share (EPS) Chapter 17

– Very wide-spread financial calculation (book not cash).

– Only required financial ratio calculation.

– To Put it SIMPLY now To Put it SIMPLY now

Net income to common stockholders

Weighted average number of shares

– Area of recent change by Financial Accounting Standards

Board.

The new standard has simplified the required

calculation of earnings per share.

Earnings Per Share

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Statement of Retained Earnings

• Statement of Retained EarningsStatement of Retained Earnings

– May be separately presented or appended to the

Income Statement.

– Of great interest to shareholders.

– Appropriations:

» The earmarkings of retained earnings for a

future purpose.

» It is really a statement of management intention.

» Appropriations of retained earnings in NO WAY

provides funds for the intention.

– See Statement of Retained Earnings, page 165, text.

3030

Comprehensive Income

• Comprehensive incomeComprehensive income includes all changes in equity during the

period except those resulting from investments by owners and

distributions to owners.

– Components of comprehensive income are to be displayed in

one of three ways:

» A separate income statement.

» A combined income statement of comprehensive income.

» As a part of stockholder’s equity.

– Regardless of format comprehensive income will be presented

in the stockholders’ equity section of the balance sheet. Please

see Illustration 4-23, page 19, our text.

11111 Intermediate Accounting, Ninth Edition Kieso and Weygandt Prepared by Catherine Katagiri, CPA...

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