Intermediate accounting 15e kieso warfield chapter 04

After studying this chapter, you should be able to: Income Statement and Related Information 4 LEARNING OBJECTIVES LEARNING OBJECTIVES... After studying this chapter, you should be able

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F I F T E E N T H E D I T I O N

Prepared by Coby Harmon University of California Santa Barbara

Westmont College

ki e so

w e ygandt warfi e ld

team for success

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PREVIEW OF CHAPTER

Intermediate Accounting

15th Edition Kieso Weygandt Warfield

4

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3 Prepare an income statement.

4 Explain how to report various income

7 Prepare a retained earnings statement.

8 Explain how to report other comprehensive income.

After studying this chapter, you should be able to:

Income Statement and Related Information

4

LEARNING OBJECTIVES

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LO 1 Understand the uses and limitations of an income statement.

achieving future cash flows

Usefulness

Income Statement

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Limitations

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Companies have incentives to manage income to meet or

beat Wall Street expectations, so that

 market price of stock increases and

 value of stock options increase

results in information that is less useful for predicting future

earnings and cash flows

Quality of Earnings

Income Statement

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4

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Format of the Income Statement

LO 2 Describe the content and format of the income statement.

Revenues – Inflows or other enhancements of assets or

settlements of its liabilities that constitute the entity’s ongoing

major or central operations

 Sales

 Interest

Examples of Revenue Accounts

Elements of the Income Statement

 Dividend

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Expenses – Outflows or other using-up of assets or

incurrences of liabilities that constitute the entity’s ongoing

major or central operations

Examples of Expense Accounts

 Cost of goods sold

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Gains and losses can result from

 sale of investments or plant assets,

 settlement of liabilities,

 write-offs of assets.

Gains – Increases in equity (net assets) from peripheral or

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4

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use assessing financial performance.

Intermediate Components

LO 3 Prepare an income statement.

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Common for companies to present some or all of the

following sections and totals within the income statement

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Single- Step

No implication that one

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The importance of components of income, as well as the bottom line, is illustrated in the recent case of Chipotle Its stock had climbed fourfold in five years and for good reason The company

had been reporting surprisingly high bottom-line for revenues The stock fell 21 percent, from

$404 to $317, in a day And Chipotle was not alone Six in 10 large companies reported results

in that same quarter that missed revenue targets In response to the bad revenue news,

Priceline.com fell $117 to $562 after reporting revenue that was lower than analysts had

expected The story has been the same for dozens of companies across industries, from Coach,

a luxury goods retailer, to Boston Scientific, which sells medical devices, to glass-container

maker Owens-Illinois The recent focus on the top line, revenue, arises because market

expectations for revenues do not seem to jive with the companies’ optimistic profit picture For example, revenues are expected to drop by about 2 percent in 2013 for companies in the S&P

500 And while companies might report a income and investors were clamoring to buy However,

in a recent month, that pattern was broken—that is, Chipotle posted solid earnings, but investors sold The reason? Analysts attribute the sell-off to Chipotle missing its target surprise in

earnings, analysts will be focusing on revenues Companies have been able to cut costs to

compensate—laying off workers, squeezing remaining staff, and using technology to run more efficiently—but there’s a limit to how much you can squeeze your workers and use technology to produce more U.S companies are just about as lean as any time in history As one analyst

noted (in this economic environment), “you won’t be able to grow earnings much faster than

revenue Analysts will have to revise down their earnings.” So watch the top line, as well as

the bottom line Source: Associated Press, “Why Some Stocks Are Sinking Despite Big Profits,”

The New York Times (August 12, 2012).

WHAT’S YOUR PRINCIPLE TOP LINE OR BOTTOM LINE?

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The single-step income statement emphasizes

a the gross profit figure

b total revenues and total expenses

c extraordinary items more than it is emphasized in the

multiple-step income statement

d the various components of income from continuing

operations

Question

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Income Statement For the year ended Dec 31, 2014

Illustration (E4-5): Prepare a

income statement from the data

below using the multiple-step

form.

Advance slide in presentation mode to reveal answers. LO 3 Prepare an income statement.

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A separation of operating and non operating activities of a

company exists in

a both a multiple-step and single-step income statement

b a multiple-step but not a single-step income statement

c a single-step but not a multiple-step income statement

d neither a single-step nor a multiple-step income

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4

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Companies are required to report unusual and irregular items

as part of net income so users can better determine the

long-run earning power of the company

These income items fall into four general categories:

1.Unusual gains and losses.

2.Discontinued operations.

3.Extraordinary items.

4.Noncontrolling interest.

LO 4 Explain how to report various income items.

Reporting Various Income Items

Modified all inclusive concept

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4-23 LO 4

Unusual Gains and Losses

The following items may need separate disclosure in the income

statement

1.Losses on the write-down or write-off of assets.

2.Gains or losses from exchange or translation of foreign currencies.

3.Restructuring charges.

4.Other gains or losses from sale or abandonment of property, plant,

or equipment used in the business.

5.Effects of a strike.

6.Adjustment of accruals on long-term contracts.

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4-24 LO 4 Explain how to report various income items.

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Occurs when,

component of the business, and

after the disposal transaction

Amounts reported “net of tax.”

Discontinued Operations

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Illustration: KC 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) KC Products sold the

division at the end of the year at a loss of $500,000 (net of tax) Show how the discontinued operations would be reported on the income

statement for KC Products

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► The allocation of tax within a period

► Helps users understand the impact of income taxes on

the various components of net income.

► Intraperiod tax allocation is used for:

(1) income from continuing operations, (2) discontinued operations, and

(3) extraordinary items

Intraperiod Tax Allocation

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Illustration: Schindler Co has income before income tax of

$250,000 It has a gain of $100,000 from a discontinued operation

Assuming a 30 percent income tax rate, Schindler presents the

following information on the income statement.

Discontinued Operations (Gain)

Illustration 4-10

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Illustration: Schindler Co has income before income tax of

$250,000 It suffers a loss from discontinued operations of $100,000 Assuming a 30 percent tax rate, Schindler presents the income tax on the income statement as shown

Discontinued Operations (Loss)

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Extraordinary items are nonrecurring material items that

differ significantly from a company’s typical business activities

Extraordinary item must meet both of the following criteria:

 Unusual nature and

 Infrequently of occurrence

Company must consider the environment in which it operates Amount reported “net of tax.”

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Are these items Extraordinary?

(a) A large portion of a tobacco manufacturer’s crops are

destroyed by a hail storm Severe damage from hail storms in the locality where the manufacturer grows tobacco is rare.

(b) A citrus grower's Florida crop is damaged by frost

(c) A company sells a block of common stock of a

publicly traded company The block of shares, which represents less than 10% of the publicly-held

company, is the only security investment the company has ever owned.

YES

Extraordinary Items

NO YES

Advance slide in presentation mode to reveal answers.

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(d) A large diversified company sells a block of shares

from its portfolio of securities which it has acquired for investment purposes This is the first sale from its portfolio of securities.

(e) An earthquake destroys one of the oil refineries

owned by a large multi-national oil company

Earthquakes are rare in this geographical location.

(f) A company experiences a material loss in the

repurchase of a large bond issue that has been outstanding for 3 years The company regularly repurchases bonds of this nature

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Illustration: Schindler Co has income before income tax and

extraordinary item of $250,000 It has an extraordinary gain of

$100,000 from a condemnation settlement received on one its

properties (30 percent tax rate) Income statement presentation:

Extraordinary Gains

Illustration 4-13Extraordinary Items

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Illustration: Schindler Co has income before income tax and

extraordinary item of $250,000 It suffers an extraordinary loss from a major casualty of $100,000 (30 percent tax rate) The loss provides a positive tax benefit Income statement presentation:

Extraordinary Losses

Illustration 4-14Extraordinary Items

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Irregular transactions such as discontinued operations and

extraordinary items should be reported separately in

a both a single-step and multiple-step income

statement

b a single-step income statement only

c a multiple-step income statement only

d neither a single-step nor a multiple-step income

statement

Question

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No event better illustrates the difficulties of determining whether a transaction meets the definition of extraordinary than the financial impacts of the terrorist attack on the World

Trade Center on September 11, 2001 To many, this event, which resulted in the tragic loss

of lives, jobs, and in some cases entire businesses, clearly meets the criteria for unusual and infrequent For example, in the wake of the terrorist attack that destroyed the World Trade Center and turned much of lower Manhattan including Wall airline industry as an example What portion of the airlines’ losses after September 11 was related to the terrorist attack, and what portion was due to the ongoing recession? Also, the FASB did not want companies to use the attack as a reason for reporting as extraordinary some losses that had little direct relationship to the attack Indeed, energy company Street into a war zone, airlines, insurance companies, and other businesses recorded major losses due to property damage, business disruption, and suspension of airline travel and of securities trading But,

to the surprise of many, the FASB did not permit extraordinary item reporting for losses arising from the terrorist attacks The reason? After much deliberation, the

Emerging Issues Task Force (EITF) of the FASB decided that measurement of the possible

loss was too difficult Take the AES and shoe retailer Footstar, who both were

experiencing profit pressure before 9/11, put some of the blame for their poor performance

on the attack Source: Julie Creswell, “Bad News Bearers Shift the Blame,” Fortune

(October 15, 2001), p 44.

WHAT’S YOUR PRINCIPLE EXTRAORDINARY TIMES

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When a company owns substantial interests (generally > 50%)

in another company, GAAP requires that the financial

statements of both companies be consolidated together into

one set of financials

Noncontrolling interest is the portion of equity (net assets)

interest in a subsidiary not attributable to the parent company

Noncontrolling Interest

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Illustration: Assume that Coca-Cola acquires 70 percent of the

outstanding stock of Koch Company Because Coca-Cola owns

more than 50 percent of Koch, it consolidates Koch’s financial

results with its own GAAP requires that net income be allocated to

the controlling and noncontrolling interest.

Noncontrolling Interest

Presentation of Noncontrolling Interest

The noncontrolling interest amounts are not an expense or dividend, but

are allocations of net income (loss) to the noncontrolling interest.

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4-42 LO 4 Explain how to report various income items.

Summary of Various Income

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4

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stock

LO 5 Identify where to report earnings per share information.

Net Income - Preferred Dividends Weighted Average of Common Shares Outstanding

Earnings per Share

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Illustration: Lancer, Inc reports net income of $350,000 It

declares and pays preferred dividends of $50,000 for the year The weighted-average number of common shares outstanding during the year is 100,000 shares Lancer computes earnings

per share as follows:

Earnings per Share

- $50,000

$350,000

LO 5 Identify where to report earnings per share information.

Net Income - Preferred Dividends Weighted Average of Common Shares Outstanding

Advance slide in presentation mode to

reveal answers.

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