F1.2 - Income Statement
Under IFRS, a component of an entity may be:
- a separate major line of business or geographical area of operations - a subsidiary acquired exclusively with a view to resale
A liability associated with an exit or disposal activity should be recognized only when ALL of the following criteria are met:
- an obligating event has occurred - the event results in a present obligation to transfer assets or to provide services in the future - the entity has little or no discretion to avoid the future transfer of assets or providing of services
Under US GAAP, a component of an entity may be:
- an operating segment - a reportable segment - a reporting unit - a subsidiary - an asset group
Accounting changes are broadly classified as:
- changes in accounting estimate - changes in accounting principles - changes in accounting entity
Events resulting in changes in accounting estimate:
- changes in the lives of fixed assets - adjustments of year end accrual of officers' salaries and/or bonuses - write-downs of obsolete inventory - material nonrecurring IRS adjustments - settlement of litigation - changes in accounting principle that are inseparable from a change in estimate
Error corrections include:
- corrections of errors in recognition, measurement, presentation, or disclosure in F/S resulting from mathematical mistakes, mistakes in the application of US GAAP/IFRS, or oversight or misuse of facts that existed at the time the F/S were prepared - changes from a non-GAAP/IFRS method of accounting to a GAAP/IFRS method of accounting
All of the following must be disclosed in the notes to the F/S in period the exit/disposal activity is initiated and all subsequent periods until the activity is completed:
- description of exit/disposal activity - for each major cost: total amount expected to be incurred in connection with the activity, the amount incurred in the period, and cumulative amount incurred to date. AND a reconciliation of the beginning and ending liability balance showing the changes during the period for costs incurred, costs paid or settled, and any other adjustments -line items in I/S in which costs are aggregated - for reach reportable segment, the total amt of costs expected to be incurred, the amount incurred in the period and incurred to date, net of any adjustments with an explanation of the reasons - if a liability for a cost associated with the activity is not recognized because FV cannot be reasonably estimated, fact and reasons should be disclosed
Examples of a strategic shift that could have a major effect on operations and financial results may include:
- disposal of a major geographical area - disposal of a major equity method investment - disposal of a major line of business
Results of ops of a component of entity/group of componenets of an entity, or business or nonprofit activity will be reported in discontinued operations, IF it:
- has been disposed of OR - is classified as held for sale
In order for a settlement to be considered directly related to a component of an entity, it must:
- have a demonstrated cause and effect relationship AND - occur no later than one year after the date of the disposal transaction (unless circumstances beyond the control of the entity exist)
Exceptions to the general rule of changes in accounting principle
- if it's considered impractical to accurately calculate the cumulative effect adjustment, then change is handled prospectively - a change in depreciation method is considered a change in accounting principle and estimate so it should be handled prospectively
How do you correct an error if comparative financial statements are presented?
- if the F/S for the year with the error are presented, merely correct the error in those prior F/S - if F/S for the year with the error are not presented, adjust net of tax the opening RE of the earliest year presented
Costs associated with exist and disposal activities include:
- involuntary employee termination benefits - costs to terminate a contract that is not a capital lease - other costs associated with exit or disposal activities, including costs to consolidate facilities or relocate employees
A component of a business (US GAAP) or a disposal group (IFRS) is classified as "held for sale" in the period in which ALL of the following criteria are met:
- management commits to a plan to sell the component - component is available for immediate sale in its present condition - active program to locate a buyer has been initated - sale of the component is probable and the sale is expected to be complete within one year - sale of the component is being actively marketed - actions required to complete the sale make it unlikely that significant changes to the plan will be made or that the plan will be withdrawn
When are anticipated future gains or losses recognized?
- not recognized until they occur
Cumulative Effect of Change in Accounting Principle presentation
- presented net of tax - the cumulative effect of a change from one acceptable method of accounting to another because the new methods presents the financial info more fairly than the old method
How do you report a change in accounting estimate?
- prospectively, meaning implement in current period and continue in future periods - if a change affects several future periods, effect on income from continuing ops, NI, & related per share info for current year should be disclosed in notes to F/S
Types of Items included in Results of Discontinued Operations for that period
- results of operations of the component - gain or loss on disposal of the component upon sale - impairment loss (& subsequent increases in FV of the component) *initial/subsequent impairment losses: loss is recognized for recording the impairment of the component (any initial write down to FV less costs to sell) *subsequent increases in FV: a gain is recognized for any subsequent increase in FV minus the costs to sell (but not in excess of the previousaly recognized cumulative loss)
Single Step Income Statement: What it is and benefit?
- total expenses (including income tax expense) are subtracted from total revenues -benefit: simple design and presentation of types of revenues/expenses don't appear to the user to be classified as more important than others
How are costs related to exit/disposal activities related to and not related to discontinued ops reported on the income statement?
-related to discontinued ops: reported in discontinued ops -not related: reported in income from continuing ops
Example: What is the expired cost for each of these unexpired costs? 1. inventory 2. unexpired (prepaid) cost of insurance 3. Net book value of fixed assets 4. unexpired costs of patents
1. Cost of goods sold 2. insurance expense 3. depreciation expense 4. patents expense (amortization)
What is the presentation order of the major components of an income and retained earnings statement?
1. Income (or Loss) from Continuing Operations 2. Income (or loss) from Discontinued Operations 3. Cumulative Effect of Change in Accounting Principle
Net Concept: Gains and Losses
Gains: reported at net amounts (proceeds less net book value). a gain is the recognition of an asset either not in the ordinary course of business of without the incurrence of an expense Losses: reported at net amounts (proceeds less net book value). a loss is cost expiration either not in the ordinary course of business or without the generation of revenue
US GAAP v IFRS: Held for Sale
IFRS: before a component can be classified as held for sale, the individual A&L of component must be measured in accordance with applicable standards and any resulting G/L must be recognized. After classification as HFS, component is reported at lower of carrying value and FV less costs to sell US GAAP: does not require remeasurement of individual A&L before classification as HFS, but classification does trigger impairment analysis of component
When is a disposal of a component/group/business/nonprofit activity reported in discontinued operations?
If the disposal represents a strategic shift that has or will have a major effect on an entity's operations and financial results
Gross Concept: Revenues and Expenses
Revenues: reported at their gross amounts (less allowance for returns and discounts given) Expenses: reported at their gross amounts
How are components classified as held for sale measured?
at the lower of its carrying amount or FV less costs to sell
Unexpired Costs
costs that will expire in future periods and be charged against revenues from future periods
What are the indirect effects of a change in accounting principle?
differences in nondiscretionary items based on earnings that would have occurred if the new principle had been used in prior periods
What is the cumulative effect of a change in accounting principle if comparative financial statements are being presented?
effect = difference between beginning RE in the first period presented and what RE would have been if the new principle had been applied to all prior periods
What is the cumulative effect of a change in accounting principle if noncomparative financial statements are being presented?
effect is equal to the difference between the amount of beginning RE in the period of change and what the RE would have been if the accounting change had been retroactively applied to all prior affected periods -includes direct effects and only those indirect effects that are entered in the accounting records
How is the income statement useful?
in determining profitability, value for investment purposes, and credit worthiness. Also, in predicting info about future cash flows based on past performance
When are adjustments to amounts previously reported in discontinued operations that are directly related to the disposal of a component of an entity in a prior period classified?
in the current period in discontinued operations
When do you report the results of discontinued operations of a component?
in the period the component is either disposed of or is held for sale -results of subsequent operations of a component classified as held for sale are reported in discontinued ops in the period in which they occur -assets within component no longer depreciated/amortized
Income (or Loss) from Continuing Operations presentation
includes operating activities, nonoperating activities, and income taxes -individual line items show before tax then total reported net of tax
FASB on extraordinary items:
items of income/loss that are unusual or infrequent or both should be reported separately as part of income from continuing ops -nature of item & effect on F/S should be disclosed on face of I/S or in footnotes
When are future operating losses expected to be incurred as part of an exit or disposal activity recognized?
recognized in the period incurred
Multiple Step Income Statement: What it is and benefit?
reports operating revenues and expenses separately from nonoperating revenues and expenses and other gains and losses Benefit: enhanced user info, because line items presented often provide the user with readily available data with which to calculate various analytical ratios
Income (or loss) from Discontinued Operations presentation
separate line item, presented net of tax
How do you report changes in accounting principle?
should be recognized by adjusting beginning retained earnings in the earliest period presented for the cumulative effect of the change if prior period F/S are presented, should be restated
Costs
the amount actually paid for something
How do you correct an error if noncomparative financial statement are presented?
the error correction should be reported as an adjustment to the opening balance of retained earnings, net of tax
What is the purpose of the Income Statement?
to provide info about the sues of funds in the income process (expenses), the uses of funds that will never be used to earn income (losses), the sources of funds created by those expenses (revenues), and the sources of funds not associated with the earnings process (gains)
When does a change in accounting entity occur?
when the entity being reported on has changed composition
How should the liability be measured for exit or disposal activities?
at fair value
What is a component of an entity?
a "part of an entity" (the lowest level) for which operations and cash flows can be clearly distinguished, both operationally and for financial reporting purposes, from the rest of the entity
What are the direct effects of a change in accounting principle?
adjustments that would be necessary to restate the financial statements of prior periods aka adjust beginning retained earnings
How should you handle changes in accounting entity?
all previous financial statements that are presented in comparative F/S along with the current year should be restated to reflect the information for the new reporting entity
What is the Rule of Preferability in terms of changes in accounting principle?
an accounting principle may be changed only if required by GAAP/IFRS or if the alternative principle is preferable and more fairly presents the info
What is a business?
an integrated set of activities and assets that is conducted and managed for the purpose of providing a return to investors or other owners, members, or participants
What is a nonprofit activity?
an integrated set of activities and assets that is conducted and managed for the purpose of providing benefits, other than goods or services at a profit, to fulfill an entity's purpose of mission