Chapter 4 - Reporting Financial Performance

9 Pages
Unlock Document

Western University
Management and Organizational Studies
Management and Organizational Studies 3360A/B
Michelle Loveland

Performance Business Models and Industries The basic business model consists of getting cash, investing it in resources, and then using these resources to generate profits. 1. Financing (external): Obtaining cash funding. By borrowing, issuing shares, or using retained profits. Also involve the repayment of debt and/or repurchase shares. 2. Investing (internal): Using the funding the buy assets and invest in people. 3. Operations (internal): Using the assets to earn profits. Risk Management: Identifying risks, deciding how to manage risks, and monitoring risks. Low cost/high volume strategy: High volume sales at a low cost. Cost differentiation strategy: Higher prices by selling more unique and higher end products. Communicating Information about Performance The information in an income statement is useful to: 1. Evaluate the enterprise's past performance and profitability. 2. Provide a basis for predicting future performance. Determine and analyze trends. 3. Help assess the risk of not achieving future net cash inflows. Quality of Earnings/Information Not all information is created equal. The statement of income/comprehensive income has the followig shortcomings: 1. Items that cannot be measured reliably are not reported in the income statement. 2. Income numbers are affected by the accounting methods that are used. Example: Different depreciation methods. 3. Income measurement involves the use of estimates. Example: Different estimates of an assets life expectancy. Differences in bad debt analysis. 4. Financial reporting bias. 5. GAAP. Quality of earnings: Refers to how solid the earnings numbers are. 1. Content: Integrity of the information. Sustainability of the earnings. Unbiased, as numbers are not manipulated, and objectively determined. Reflect the economic reality Reflect primarily the earnings generated from ongoing core business activities. Closely correlate with cash flows from operations. Based on sound business strategy and business model. 2. Presentation: Earnings are presented in a clear, concise manner that makes the information easy to use and understand. Transparent, as no attempt is made to disguise or mislead. Understandable. Sustainability of income is important. Earnings Management: Defined as the process of targeting certain earnings levels (whether current or future) or desired earnings trends and then working backwards to determine what has to be done to ensure that these targets are met. The Statement of Income and the Statement of Comprehensive Income Measurement Net income represents revenues and gains less expenses and losses both from continuing and discontinued operations. Comprehensive income: Is net income plus/minus other comprehensive income/loss. Operating income: Is not defined by GAAP but is generally seen to be ongoing revenues less expenses. The notion of comprehensive income is sometimes referred to as the all-inclusive approach to measuring income. Operating income supporters believe that including one-time items such as write-offs and restructuring charges reduces the income measure''s basic predictive value. Analysts argue that one-time items actually provide feedback value. They can be used to assess the riskiness of future earnings - and therefore have predictive value. Other comprehensive income (OCI): Is made up of certain specific gains or losses including: Unrealized gains and losses on certain securities. Certain foreign exchange gains or losses. Other gains and losses as defined by IFRS. Other comprehensive income is closed out to a balance sheet account that is often referred to as Accumulated Other Comprehensive Income. Acts as a type of retained earnings account. Is an equity account on the balance sheet. Discontinued Operations Discontinued Operations: Include components of an enterprise that have been disposed of (by sale, abandonment, or spinoff) or are classified as held for sale. Separate Component Component of an entity (a business component) where the operations, cash flows, and financial elements are clearly distinguishable from the rest of the enterprise. Considered a Component under ASPE Operating segment: Operating segments engage in business activities, have their performance review by management (specifically the chief operating decision-maker), and have discrete accounting information available. Reporting unit: Is equal to an operating segment or one level below, the difference being that performance is review by a lower level of management. Subsidiary: A separate level entity. Asset group: Has cash flows that are largely independent of other cash flows from the business. Operations without long-lived or other assets. Considered a Component under IFRS A separate major line of business or geographical area of operations. A business that meets the criteria to be accounted for as held for sale upon acquisition. ASPE is less restrictive. Assets Held for Sale An additional condition must be met before the transaction can be given a different presentation on the income statement. Assets relating to the component must be considered to be held for sale by the company. Assets are considered to be held for sale when all of the following criteria are met: There is an authorized plan to sell. The asset is available for immediate sale in its current state. There is an active program to find a buyer. Sale is probable within one year. The asset is reasonably priced and actively marketed. Changes to the plan are unlikely. In summary, assets may be considered as held for sale when there is a formal plan to dispose of the component. Note that assets that are held for sale might not (and do not need to) meet the definition of discontinued operations. Measurement and Presentation When an asset is held for sale, regardless of whether it meets the definition of a discontinued operation, the asset is remeasured to the lower of its carrying value and fair value less its cost to sell. Note that if the value of an asset that has been written down later increase, the gain can be recognized up to the amount of the original loss. Once an asset has been classified as held for sale, no further depreciation is recognized. Under ASPE: Assets and related liabilities that are classified in this way are presented separately as held for sale in the balance sheet (if material). Example: Current assets: as "current assets held for sale/related to discontinued operations" Noncurrent assets: as "concurrent assets held for sale/related to discontinued operations" Current liabilities: as "current liabilities related to assets held for sale/discontinued" Long-term liabilities: as "long-term liabilities related to assets held for sale/discontinued" Under IFRS: Assets and related liabilities that are classified in this way are presented in the current assets. The assets an liabilities would be presented as held for sale and classified as current assets and liabilities. Presentation Ordinary versus Peripheral Activities The distinction between revenues and gain (and expenses and losses) depends to a great extent on how the enterprises's ordinary or typical business activities are defined. Basic Presentation Requirements Companies are required to include all elements in the financial statements as long as they are measurable and probable. The following items are specifically required to be presented separately in the statement of income/comprehensive income. ASPE as per Section 1520 Revenue Income from investments income tax expense (before discontinued operations) Income or loss before discontinued operations Results of discontinued operations Net income or loss IFRS as per IAS 1 Revenue Gains/losses from derecognition of financial asset measured at amortized cost Gains/losses on reclassification of financial assets Finance costs Share of profit/loss for investments accounted for using the equity method Tax expense Results of discontinued operations Profit or loss Other comprehensive income classified by nature showing which will be recycled and which will not Share of other comprehensive income of investments accounted for using the equity method Comprehensive income Profit or loss and comprehensive income attributable to non-controlling interest and owners Combined Statement of Income/Comprehensive Income Under IFRS, the statement of comprehensive income is presented either: 1. in a single combined statement including revenues, expenses, gains, losses, net income, other comprehensive income, and comprehensive income. or; 2. in two separate statements showing the traditional income statement in one and a second statement beginning with net income and displaying the components of other comprehensive income, as well as comprehensive income. Single-Step Income Statements Only two main groupings are used: Revenues and expenses. The single-step form of income statement is widely used in financial reporting in smaller private companies. Main advantages: Presentation is simple No one type of revenue or expense item is implied to have priory over any other Main disadvantage: Over-simplification and less detail Multi-Step Income Statements Some users argue that presenting other important revenue and expense data separately makes the income statement more informative and more useful. A multiple-step
More Less

Related notes for Management and Organizational Studies 3360A/B

Log In


Don't have an account?

Join OneClass

Access over 10 million pages of study
documents for 1.3 million courses.

Sign up

Join to view


By registering, I agree to the Terms and Privacy Policies
Already have an account?
Just a few more details

So we can recommend you notes for your school.

Reset Password

Please enter below the email address you registered with and we will send you a link to reset your password.

Add your courses

Get notes from the top students in your class.