4

Income Statement and Related Information

Intermediate Accounting 14th Edition

Kieso, Weygandt, and Warfield

Chapter 4-1

Prepared by Coby Harmon, University of California, Santa Barbara; Adapted by Ashley Stark, Dickinson State University

Income Statement
Usefulness


Evaluate past performance.

Predicting future performance.

Help assess the risk or uncertainty of achieving future cash flows.

Chapter 4-2

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

Income Statement
Limitations


Companies omit items that cannot be measured reliably. Income is affected by the accounting methods employed.

Income measurement involves judgment.

Chapter 4-3

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

Income Statement
Quality of Earnings
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.

Quality of earnings is reduced if earnings management results in information that is less useful for predicting future earnings and cash flows.
Chapter 4-4

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

Format of the Income Statement

Elements of the Income Statement
Revenues Inflows or other enhancements of assets or settlements of its liabilities that constitute the entitys ongoing major or central operations. Examples of Revenue Accounts
  

Sales Fee revenue Interest revenue

 

Dividend revenue Rent revenue

Chapter 4-5

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

Format of the Income Statement

Elements of the Income Statement
Expenses Outflows or other using-up of assets or incurrences of liabilities that constitute the entitys ongoing major or central operations. Examples of Expense Accounts
 

Cost of goods sold Depreciation expense Interest expense

 

Rent expense Salary expense


Chapter 4-6

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

Format of the Income Statement

Elements of the Income Statement
Gains Increases in equity (net assets) from peripheral or incidental transactions. Losses - Decreases in equity (net assets) from peripheral or incidental transactions. Gains and losses can result from
  
Chapter 4-7

sale of investments or plant assets, settlement of liabilities, write-offs of assets.

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

SingleSingle-Step Format
Single-Step Income Statement
Revenues Expenses Net Income
No distinction between Operating and Non-operating categories.
Chapter 4-8

Income Statement (in thousands) Revenues: Sales Interest revenue Total revenue $ 285,000 17,000 302,000 149,000 10,000 43,000 21,000 24,000 247,000 $ 55,000 $ 0.75

SingleStep

Expenses: Cost of goods sold Selling expense Administrative expense Interest expense Income tax expense Total expenses Net income Earnings per share

LO 2 Prepare a single-step income statement.

E4-4: Prepare an income statement from the data below.

SingleSingle-Step Format
Income Statement For the year ended Dec. 31, 2012

Administrative expense: Officers' salaries Depreciation Cost of goods sold Rental revenue Selling expense: Transportation-out Sales commissions Depreciation Sales Income tax expense Interest expense
Chapter 4-9

Revenues: $ 4,900 3,960 63,570 17,230 Sales Rental revenue Total revenues Expenses: Cost of goods sold 2,690 7,980 6,480 96,500 7,580 1,860 Selling expense Administrative exense Interest expense Income tax expense Total expenses Net income $ 63,570 17,150 8,860 1,860 7,580 99,020 14,710 $ 96,500 17,230 113,730

LO 2 Prepare a single-step income statement.

Format of the Income Statement

Multiple-Step Income Statement


Separates operating transactions from nonoperating transactions. Matches costs and expenses with related revenues. Highlights certain intermediate components of income that analysts use.

 

Chapter 4-10

LO 3 Prepare a multiple-step income statement.

MultipleMultiple-Step Format
Intermediate Components of the Income Statement
1. Operating section 2. Nonoperating section 3. Income tax 4. Discontinued operations 5. Extraordinary items 6. Earnings per share

Chapter 4-11

LO 3 Prepare a multiple-step income statement.

MultipleMultiple-Step Format
The presentation divides information into major sections.
1. Operating Section
Income Statement (in thousands) Sales Cost of goods sold Gross profit Operating expenses: Selling expenses Administrative expenses Total operating expense Income from operations Other revenue (expense): Interest revenue Interest expense Total other Income before taxes Income tax expense Net income $ 285,000 149,000 136,000 10,000 43,000 53,000 83,000 17,000 (21,000) (4,000) 79,000 24,000 55,000

2. Nonoperating Section 3. Income tax

Chapter 4-12

LO 3 Prepare a multiple-step income statement.

Illustration (E4-4): Prepare an income statement from the data below.

Administrative expense: Officers' salaries Depreciation Cost of goods sold Rental revenue Selling expense: Transportation-out Sales commissions Depreciation Sales Income tax expense Interest expense 2,690 7,980 6,480 96,500 7,580 1,860 $ 4,900 3,960 63,570 17,230

MultipleMultiple-Step Format
Income Statement For the year ended Dec. 31, 2012 Sales Cost of goods sold Gross profit Operating Expenses: Selling expense Administrative exense Total operating expenses Income from operations Other revenue (expense): Rental revenue Interest expense Total other Income before tax Income tax expense Net income $ 17,230 (1,860) 15,370 22,290 7,580 14,710 17,150 8,860 26,010 6,920 $ 96,500 63,570 32,930

Chapter 4-13

Reporting Irregular Items

Irregular items fall into six categories
1. Discontinued operations. 2. Extraordinary items. 3. Unusual gains and losses. 4. Changes in accounting principle. 5. Changes in estimates. 6. Corrections of errors.

Chapter 4-14

LO 4 Explain how to report irregular items.

Reporting Irregular Items

Discontinued Operations
Occurs when,
(a) company eliminates the
 

results of operations and cash flows of a component.

(b) there is no significant continuing involvement in that component. Amount reported net of tax.
Chapter 4-15

LO 4 Explain how to report irregular items.

Reporting Discontinued Operations

Illustration: KC Corporation had after tax income from continuing operations of $55,000,000 for the year. During the year, it disposed of its restaurant division at a pretax loss of $270,000. Prior to disposal, the division operated at a pretax loss of $450,000 for the year. Assume a tax rate of 30%. Prepare a partial income statement for KC.

Chapter 4-16

LO 4 Explain how to report irregular items.

Reporting Discontinued Operations

Discontinued Operations are reported after Income from continuing operations.
Income Statement (in thousands) Sales Cost of goods sold Gross profit Interest expense Total other Income before taxes Income tax expense Income from continuing operations Discontinued operations: Loss from operations, net of tax Loss on disposal, net of tax Total loss on discontinued operations Net income $ 285,000 149,000 136,000 (21,000) (4,000) 79,000 24,000 55,000 315 189 504 $ 54,496

Previously labeled as Net Income.

Moved to
Chapter 4-17

LO 4

Reporting Irregular Items

Extraordinary items are nonrecurring material items that
differ significantly from a companys typical business activities. Extraordinary Item must be both of an
 

Unusual Nature and Occur Infrequently

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

Chapter 4-18

LO 4 Explain how to report irregular items.

Reporting Extraordinary Items

Are these items Extraordinary?

YES NO

Chapter 4-19

LO 4 Explain how to report irregular items.

Reporting Extraordinary Items

Illustration: KC Corporation had after tax income from continuing operations of $55,000,000 during the year. In addition, it suffered an unusual and infrequent pretax loss of $770,000 from a volcano eruption. The corporations tax rate is 30%. Prepare a partial income statement for KC Corporation beginning with income from continuing operations.

Chapter 4-20

LO 4 Explain how to report irregular items.

Reporting Extraordinary Items

Extraordinary Items are reported after Income from continuing operations.
Income Statement (in thousands) Sales Cost of goods sold Gross profit Other revenue (expense): Interest revenue Interest expense Total other Income before taxes Income tax expense Income from continuing operations Extraordinary loss, net of tax Net income $ 285,000 149,000 136,000

Previously labeled as Net Income. Moved to

Chapter 4-21

17,000 (21,000) (4,000) 79,000 24,000 55,000 539 $ 54,461

LO 4

Reporting Irregular Items

Reporting when both Discontinued Operations and Extraordinary Items are present.
Income Statement (in thousands) Sales Cost of goods sold Gross profit Income before taxes Income tax expense Income from continuing operations Discontinued operations: Loss from operations, net of tax Loss on disposal, net of tax Total loss on discontinued operations Income before extraordinary item Extraordinary loss, net of tax Net income $ 285,000 149,000 136,000 79,000 24,000 55,000 315 189 504 54,496 539 $ 54,496
LO 4

Discontinued Operations

Extraordinary Items
Chapter 4-22

Reporting Irregular Items

Unusual Gains and Losses
Material items that are unusual or infrequent, but not both, should be reported in a separate section just above Income from continuing operations before income taxes. Examples can include:
 

Write-downs of inventories Foreign exchange transaction gains and losses

The Board prohibits net-of-tax treatment for these items.

Chapter 4-23

LO 4 Explain how to report irregular items.

Reporting Irregular Items

Changes in Accounting Principles
 

Retrospective adjustment. Cumulative effect adjustment to beginning retained earnings. Approach preserves comparability. Examples include:
change from FIFO to average cost. change from the percentage-of-completion to the completed-contract method.

 

Chapter 4-24

LO 4 Explain how to report irregular items.

Reporting Irregular Items

Change in Accounting Principle: Gaubert Inc. decided in
March 2012 to change from FIFO to weighted-average inventory pricing. Gauberts income before taxes, using the new weightedaverage method in 2012, is $30,000.
Pretax Income Data Illustration 4-10 Calculation of a Change in Accounting Principle

Illustration 4-11 Income Statement Presentation of a Change in Accounting Principle (Based on 30% tax rate) Chapter 4-25

LO 4 Explain how to report irregular items.

Reporting Irregular Items

Changes in Estimate
   

Accounted for in the period of change and future periods. Not handled retrospectively. Not considered errors or extraordinary items. Examples include:
Useful lives and salvage values of depreciable assets. Allowance for uncollectible receivables. Inventory obsolescence.

Chapter 4-26

LO 4 Explain how to report irregular items.

Change in Estimate Example

Change in Estimate: Arcadia HS, purchased equipment for
$510,000 which was estimated to have a useful life of 10 years with a salvage value of $10,000 at the end of that time. Depreciation has been recorded for 7 years on a straight-line basis. In 2012 (year 8), it is determined that the total estimated life should be 15 years with a salvage value of $5,000 at the end of that time.

Questions:


What is the journal entry to correct the prior years depreciation? Calculate the depreciation expense for 2012.
LO 4 Explain how to report irregular items.


Chapter 4-27

Reporting Irregular Items

Corrections of Errors


Result from:
mathematical mistakes. mistakes in application of accounting principles. oversight or misuse of facts.

 

Corrections treated as prior period adjustments. Adjustment to the beginning balance of retained earnings.

Chapter 4-28

LO 4 Explain how to report irregular items.

Reporting Irregular Items

Corrections of Errors: To illustrate, in 2013, Hillsboro Co.

determined that it incorrectly overstated its accounts receivable and sales revenue by $100,000 in 2010. In 2013, Hillboro makes the following entry to correct for this error (ignore income taxes).

Chapter 4-29

LO 4 Explain how to report irregular items.

Special Reporting Issues

Intraperiod Tax Allocation
Relates the income tax expense to the specific items that give rise to the amount of the tax expense. Income tax is allocated to the following items: (1) Income from continuing operations before tax. (2) Discontinued operations.
(3) (4) (5)

Extraordinary items. Changes in accounting Principle Correction of errors

LO 5 Explain intraperiod tax allocation.

Chapter 4-30

Special Reporting Issues

Intraperiod Tax Allocation
Extraordinary Gain: 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. Assuming a 30 percent income tax rate, what is the net extraordinary gain? What will net income be?

Chapter 4-31

LO 5 Explain intraperiod tax allocation.

Special Reporting Issues

Intraperiod Tax Allocation
Extraordinary Loss: Schindler Co. has income before income tax and extraordinary item of $250,000. It has an extraordinary loss from a major casualty of $100,000. Assuming a 30 percent income tax rate , what is the net extraordinary loss? What will net income be?

Chapter 4-32

LO 5 Explain intraperiod tax allocation.

Example of Intraperiod Tax Allocation

Income Statement (in thousands) Sales Cost of goods sold Total other Income from cont. oper. before taxes Income tax expense Income from continuing operations Discontinued operations: Loss on operations, net of $135 tax Loss on disposal, net of $61 tax Total loss on discontinued operations Income before extraordinary item Extraordinary loss, net of $231 tax Net income
Chapter 4-33

$ 285,000 149,000 (4,000) 79,000 24,000 55,000 315 189 504 54,496 539 $ 53,957

Note: losses reduce the total tax

Calculation of Total Tax $24,000 (135) (61) (231) $23,573

LO 5 Explain intraperiod tax allocation.

Special Reporting Issues

Earnings Per Share
Net income - Preferred dividends Weighted average number of shares outstanding
 

An important business indicator. Measures the dollars earned by each share of common stock. Must be disclosed on the the income statement.

Chapter 4-34

LO 6 Identify where to report earnings per share information.

Special Reporting Issues

Example Problem: BE4-8

Chapter 4-35

LO 6 Identify where to report earnings per share information.

Special Reporting Issues

Illustration 4-17

Divide by weightedaverage shares outstanding

EPS
Chapter 4-36

LO 6

Special Reporting Issues

Retained Earnings Statement Increase
 

Decrease
  

Net income Change in accounting principle Error corrections

Net loss Dividends Change in accounting principles Error corrections

Chapter 4-37

LO 7 Prepare a retained earnings statement.

Special Reporting Issues

Woods, Inc. Statement of Retained Earnings For the Year Ended December 31, 2012 Balance, January 1 Net income Dividends Balance, December 31 $ 1,050,000 360,000 (300,000) 1,110,000

Before issuing the report for the year ended December 31, 2012, you discover a $50,000 error (net of tax) that caused 2011 inventory to be overstated (overstated inventory caused COGS to be lower and thus net income to be higher in 2011). Would this discovery have any impact on the reporting of the Statement of Retained Earnings for 2012?
Chapter 4-38

LO 7 Prepare a retained earnings statement.

Special Reporting Issues

Restrictions on Retained Earnings
Disclosed
 

In notes to the financial statements. As Appropriated Retained Earnings.

Chapter 4-39

LO 7 Prepare a retained earnings statement.

Special Reporting Issues

Comprehensive Income
All changes in equity during a period except those resulting from investments by owners and distributions to owners. Includes:


all revenues and gains, expenses and losses reported in net income, and

all gains and losses that bypass net income but affect stockholders equity.

Chapter 4-40

LO 8 Explain how to report other comprehensive income.

Special Reporting Issues

Comprehensive Income
Income Statement (in thousands) Sales $ 285,000 Cost of goods sold 149,000 Gross profit 136,000 Operating expenses: Selling expenses 10,000 Administrative expenses 43,000 Total operating expense 53,000 Income from operations 83,000 Other revenue (expense): Interest revenue 17,000 Interest expense (21,000) Total other (4,000) Income before taxes 79,000 Income tax expense 24,000 Net income $ 55,000
Chapter 4-41

Other Comprehensive Income



Unrealized gains and losses on available-forsale securities. Translation gains and losses on foreign currency. Plus others

Reported in Stockholders Equity

LO 8 Explain how to report other comprehensive income.

Special Reporting Issues

Companies must display the components of other comprehensive income in one of three ways: 1. A second separate income statement; 2. A combined income statement of comprehensive income; or 3. As part of the statement of stockholders equity

Chapter 4-42

LO 8 Explain how to report other comprehensive income.

Special Reporting Issues

Comprehensive Income
Second income statement
Illustration 4-19

Chapter 4-43

LO 8

Special Reporting Issues

Comprehensive Income
Combined statement
V. Gill Inc. Combined Statement of Comprehensive Income For the Year Ended December 31, 2012

Sales revenue Cost of goods sold Gross profit Operating expenses Net income Unrealized holding gain, net of tax Comprehensive income

$ 800,000 600,000 200,000 90,000 110,000 30,000 $ 140,000

Chapter 4-44

LO 8

Special Reporting Issues

Comprehensive Income Statement of Stockholders Equity
Illustration 4-20

Chapter 4-45

LO 8 Explain how to report other comprehensive income.

Special Reporting Issues

Comprehensive Income Balance Sheet Presentation

Illustration 4-21 Presentation of Accumulated Other Comprehensive Income in the Balance Sheet

Regardless of the display format used, the accumulated other comprehensive income of $90,000 is reported in the stockholders equity section of the balance sheet.
Chapter 4-46

LO 8 Explain how to report other comprehensive income.