Within this section we will further our discussion on the non-recurring components of net income, such as unusual or infrequent items, discontinued operations, extraordinary items, and prior period adjustments.

Unusual or Infrequent Items
Included in this category are items that are either unusual or infrequent in nature but cannot be both.

  • Examples of unusual or infrequent items:
    • Gains (or losses) as a result of the disposition of a company's business segment including:
      • Plant shutdown costs
      • Lease-breaking fees
      • Employee-separation costs
    • Gains (or losses) as a result of the disposition of a company's assets or investments (including investments in subsidiary segments) including:
      • Plant shut-down costs
      • Lease-breaking fees
    • Gains (or losses) as a result of a lawsuit
    • Losses of operations due to an earthquake
    • Impairments, write-offs, write-downs and restructuring costs
    • Integration expenses related to the acquisition of a business

Look Out!

Accounting treatment is usually displayed as pre-tax. That means that they are displayed on the income statement after income from continuing operations gross of tax implication.

Extraordinary Items
Events that are both unusual and infrequent in nature are qualified as extraordinary expenses.

  • Example of extraordinary items:
    • Losses from expropriation of assets
    • Gain (or losses) from early retirement of debt

Look Out!

Accounting treatment is usually displayed net of tax. That means that they are displayed on the income statement after income from continuing operations net of its tax implication.

Discontinued Operations
Sometimes management decides to dispose of certain business operations but either has not yet done so or did it in the current year after it had generated income or losses. To be accounted for as a discontinued operation, the business must be physically and operationally distinct from the rest of the firm. Basic definitions:

  • Measurement date - The date when the company develops a formal plan for disposing.
  • Phaseout period - Time between the measurement date and the actual disposal date

The income or loss from discontinued operations is reported separately, and past income statements must be restated, separating the income or loss from discontinued operations.
On the measurement date, the company will accrue any estimated loss during the phaseout period and estimated loss on the sale of the disposal. Any expected gain on the disposal cannot be reported until after the sale is completed (same rule applies to the sale of a portion of a business segment).


Look Out!

Important: Accounting treatment of income and losses from discontinued operations are reported net of tax after net income from continuing operations.

Accounting Changes
Accounting changes occur for two reasons:

  1. As a result of a change in an accounting principle
  2. As a result of a change in an accounting estimate.

The most common form of a change in accounting principle is the switch from the LIFO inventory accounting method to another method such FIFO or average cost basis.

The most common form of a change in accounting estimates is a change in depreciation method for new assets or change in depreciable lives/salvage values, which is considered a change in accounting estimates and not a change in accounting principle. Note that past income does not need to be restated from the LIFO inventory accounting method to another method such FIFO or average cost basis.

In general, prior years' financial statements do not need to be restated unless it is a change in:

  • Inventory accounting methods (LIFO to FIFO)
  • Change to or from full-cost method (This is used in oil & gas exploration. The successful-efforts method capitalizes only the costs associated with successful activities while the full-cost method capitalizes all the costs associated with all activities.)
  • Change from or to percentage-of-completion method (look at revenue- recognition methods)
  • All changes just prior to a company's IPO

Prior Period Adjustments
These adjustments are related to accounting errors. These errors are typically NOT reported in the income statement but are reported in retained earnings. (These can be found in changes in retained earnings.) These errors are disclosed as footnotes explaining the nature of the error and its effect on net income.



Balance Sheet Basics

Related Articles
  1. Investing

    Financial Statement: Extraordinary Vs. Nonrecurring Items

    When it comes to analyzing a company, successful analysts spend considerable time differentiating between accounting items that are likely to recur going forward from those that most likely will ...
  2. Investing

    Understanding the Income Statement

    The best way to analyze a company - and figure out if it's worth investing in - is to know how to dissect its income statement. Here's how to do it.
  3. Investing

    Find Investment Quality In The Income Statement

    Use these key attributes to uncover top-level investments.
  4. Small Business

    Build Your Small Business During Downswings

    Here we offer some cost-saving measures to strengthen your business even when the market is weak.
  5. Investing

    How Does National Income Accounting Work?

    National income accounting is an economic term describing the system used by a country to gather data and determine aggregate economic activity.
  6. Investing

    Accounting For Differences in Oil and Gas Accounting

    How a company accounts for its expenses affects how its net income and cash flow numbers are reported.
  7. Investing

    Understanding Profit Metrics: Gross, Operating and Net Profits

    Rather than relying solely on net profit figures to evaluate a company's performance, seasoned investors will often look at gross profit and operating profit as well.
  8. Investing

    What's a P&L Statement?

    A profit and loss statement, also called the income statement, is a financial statement that companies use to report their income and expenses for a quarter or a year.
Frequently Asked Questions
  1. Why is social responsibility important to a business?

    Take social responsibility seriously, and your business could benefit from happier, more productive staff members while helping ...
  2. Which socially responsible retailers appeal most to ethical investors?

    Learn why ethical investors have many options in the retail sector, and discover which retail companies are most popular ...
  3. What are Some Examples of Free Market Economies?

    Learn which of the world's economies best resemble free market economies, marked by free trade, low government involvement, ...
  4. Who Decides When to Print money in India?

    Find out the role of the Reserve Bank of India, or RBI, and the amount of authority given to the government. Learn who is ...
Trading Center