Chapter 13 – Corporate Chapter 13 – Corporate Income Statement and Income Statement and

the Statement of the Statement of StockholdersStockholders’ Equity’ Equity

Comprehensive IncomeComprehensive Income All-inclusiveAll-inclusive

Change in a company’s equity from sources Change in a company’s equity from sources other than owners during a period. It includes other than owners during a period. It includes the following:the following:

Net incomeNet income Changes in unrealized investment Changes in unrealized investment

gains/lossesgains/losses Foreign currency translation adjustmentsForeign currency translation adjustments

How is it shown (based on 600 large co’s)How is it shown (based on 600 large co’s) On the statement on the statement of On the statement on the statement of

stockholders’ equity (81%)stockholders’ equity (81%) Separate statement (13%)Separate statement (13%) On the income statement (6%)On the income statement (6%)

Net IncomeNet Income Includes all revenues, expenses, Includes all revenues, expenses,

gains, and losses over the period gains, and losses over the period reportedreported

SectionsSections Operating (recurring items)Operating (recurring items) Income taxes (recurring items)Income taxes (recurring items) Nonoperating (not recurring in some Nonoperating (not recurring in some

instances)instances) Discontinued operationsDiscontinued operations Extraordinary gains/lossesExtraordinary gains/losses Effects of accounting changesEffects of accounting changes

Quality of earningsQuality of earningsThe quality of net income or the substance The quality of net income or the substance

of earnings and is this number useful for of earnings and is this number useful for future predictions?future predictions?

For example 2 companies in the same For example 2 companies in the same industry may have comparable earnings industry may have comparable earnings quantity, but not comparable earnings quantity, but not comparable earnings quality based on the methods or estimates quality based on the methods or estimates each one uses since GAAP may allow each one uses since GAAP may allow several methods to be usedseveral methods to be used

The existence of alternatives or different The existence of alternatives or different methods can cause problems in methods can cause problems in comparability between firmscomparability between firms

Behind the financial statements are the Behind the financial statements are the notes that may explain the methods used notes that may explain the methods used

Accounting EstimatesAccounting Estimates

Considerable latitude or choice on Considerable latitude or choice on which estimate management decides which estimate management decides to use may have an impact on to use may have an impact on operating incomeoperating incomeExamples:Examples: % of uncollectable accounts% of uncollectable accounts Inventory method (LIFO vs FIFO)Inventory method (LIFO vs FIFO) Useful life for depreciationUseful life for depreciation Salvage valueSalvage value Amortization periodAmortization period

ConsistencyConsistency

Requires that the same accounting Requires that the same accounting procedures be used from year to procedures be used from year to year and if a change is made the year and if a change is made the nature of the change and the nature of the change and the monetary change must be explained monetary change must be explained in a note to the financial statementsin a note to the financial statements

Gains and lossesGains and losses

Results from sales or disposes of Results from sales or disposes of assets or marketable securitiesassets or marketable securities

Appear in the operating portion Appear in the operating portion Usually one-time eventsUsually one-time events Are not sustainableAre not sustainable

Not ongoingNot ongoing Management has choice of timingManagement has choice of timing Should not be considered operating Should not be considered operating

incomeincome

Write-downs of assets Write-downs of assets (impairments)(impairments)

If the value of an asset declines or impaired If the value of an asset declines or impaired Write-down the valueWrite-down the value Restructuring of a facility or branchRestructuring of a facility or branch

Recording estimated costs associated Recording estimated costs associated with a change in a company’s with a change in a company’s operationsoperations

Closing the facilityClosing the facility Laying off personnelLaying off personnel

Write-downs or restructuring reduce Write-downs or restructuring reduce current income by increasing expense current income by increasing expense and increases future incomeand increases future income

Income Taxes ExpenseIncome Taxes Expense Taxable income (per IRS)Taxable income (per IRS)

IRS determines what business expenses IRS determines what business expenses maybe deducted and may differ per GAAP maybe deducted and may differ per GAAP

2 sets of accounting records may occur 2 sets of accounting records may occur if IRS and GAAP conflict on expenses if IRS and GAAP conflict on expenses and revenues that can be reportedand revenues that can be reported Purpose of accounting is to determine net Purpose of accounting is to determine net

income in accordance with GAAPincome in accordance with GAAP Differences between tax payable and tax Differences between tax payable and tax

expense result in timing differencesexpense result in timing differences

Differences between GAAP and IRSDifferences between GAAP and IRS

GAAP IRSGAAP IRSExpense accrual/deferral date paidExpense accrual/deferral date paid

Accts Rec Allowance direct Accts Rec Allowance direct chargeoffchargeoff

Inventories Average-cost FIFOInventories Average-cost FIFO

Depreciation straight-lineDepreciation straight-linemodified ACRSmodified ACRS

Income Tax AllocationIncome Tax Allocation Accounting method used to accrue Accounting method used to accrue

income taxes expenseincome taxes expense Deferred income taxesDeferred income taxes

Account used to record the differences Account used to record the differences between the income tax expense and between the income tax expense and the income tax payablethe income tax payable

Example:Example:

Income tax expense (GAAP) 144,500Income tax expense (GAAP) 144,500

Income tax payable (IRS) 92,000Income tax payable (IRS) 92,000

Deferred income tax (diff) 52,500Deferred income tax (diff) 52,500

Net of taxesNet of taxes

Phase used on the income statement Phase used on the income statement to notate that the figure shown is net to notate that the figure shown is net of taxesof taxes

Example:Example: Extraordinary gain (net of taxes, 30,000)Extraordinary gain (net of taxes, 30,000)

Discontinued OperationsDiscontinued Operations

Segments of a business that no Segments of a business that no longer part of the ongoing operationslonger part of the ongoing operations

Gains/losses from these operations Gains/losses from these operations are shown separately on the income are shown separately on the income statement statement Present the income from the segmentPresent the income from the segment Present the gain/loss from the disposal Present the gain/loss from the disposal

of the segment of the segment

Extraordinary itemsExtraordinary items

Events or transactions that are Events or transactions that are distinguished by their unusual nature distinguished by their unusual nature and by the infrequency of their and by the infrequency of their occurrenceoccurrence

Examples:Examples: Uninsured loss from floodUninsured loss from flood Earthquake Earthquake New law New law Property taken by a foreign governmentProperty taken by a foreign government

Accounting ChangesAccounting Changes

A company is allowed to make A company is allowed to make accounting changes if current procedures accounting changes if current procedures are incorrect or inappropriateare incorrect or inappropriate

Cumulative effect of an accounting Cumulative effect of an accounting change is the effect the new principle change is the effect the new principle would have on the net income in prior would have on the net income in prior periodsperiods

Relevant information is shown in the Relevant information is shown in the notes to the financial statementsnotes to the financial statements

Statement of Statement of Comprehensive IncomeComprehensive Income

Income StatementIncome Statement

For Year Ended Dec. 31, 20xxFor Year Ended Dec. 31, 20xx

RevenuesRevenues xxx xxx

ExpensesExpenses xxx xxx

Other gains and lossesOther gains and losses xxxxxx

Income before taxIncome before tax xxx xxx

Income tax expenseIncome tax expense xxxxxx

Net incomeNet income xxx xxx

Statement of Comprehensive IncomeFor Year Ended Dec. 31, 20xx

Net income xxxForeign currency translation adjustment xxxUnrealized holding gains/losses xxxMinimum pension liability adjustment xxxOther comprehensive income xxxComprehensive income xxx

Comprehensive income – the total change in net assets from all sources except investments by or distributions to the owners