Irregular Items free essay sample

Particularly popular with the press is coverage of a major corporate action to exit a complete business unit. Such disposals occur when a corporate conglomerate (i. e. , a company with many diverse business units) decides to exit a unit of operation by sale to some other company, or by outright abandonment. For example, a computer maker may decide to sell its personal computer manufacturing unit to a more efficient competitor, and instead focus on its mainframe and service business. Or, a chemical company may simply decide to close a unit that has been producing a specialty product that has become an environmental and liability nightmare. * Whatever the scenario, if an entity is disposing of a complete business component, it will invoke the unique reporting rules related to discontinued operations. Â   To trigger these rules requires that the disposed business component have operations that are clearly distinguishable operationally and for reporting purposes. This would typically relate to a separate business segment, unit, subsidiary, or group of assets. We will write a custom essay sample on Irregular Items or any similar topic specifically for you Do Not WasteYour Time HIRE WRITER Only 13.90 / page Below is an illustrative income statement for Bail Out Corporation. Bail Out distributes farming implements and sporting goods. During 20X7, Bail Out sold its sporting equipment business and began to focus only on farm implements. In examining this illustration, be aware that revenues and expenses only relate to the continuing farming equipment. All amounts relating to operations of the sporting equipment business, along with the loss on the sale of assets used in that business, are removed from the upper portion of the income statement and placed in a separate category below income from continuing operations. | * Importantly, if a company is merely disposing of a single manufacturing plant or some other set of assets that does not constitute a business component, then the discontinued operations reporting rules are not invoked. For instance, suppose Sail Out merely sold its facility in Georgia, but continued to distribute the same products at all of its other locations. This would not constitute a discontinued operation. The income statement might include the gain or loss on the sale of the Georgia location as a separate line item in the income statement (as follows), but it would not require the expanded disclosures necessitated for a discontinued operation. * * Before moving on, review Bail Outs income statement, noting that total income taxes were split between those applicable to continuing operations and discontinued operations. This method of showing the tax effects related to the discontinued operations is mandatory, and is called intraperiod tax allocation. Â   However, you should also note that only one income tax number is attributed to income from continuing operations; it is improper to further subdivide that amount of tax. For example, in the Sail Out income statement illustration, no attempt was made to match a portion of the total tax to the Georgia transaction. * As you will soon observe, intraperiod tax allocation is also applicable to other items that are reported below the income from continuing operation section of the income statement (additionally, intraperiod tax allocation can impact prior period adjustments and other scenarios beyond the scope of this discussion). ttp://www. principlesofaccounting. com/chapter%2015. htm Extraordinary item An unusual and unexpected one-time event that must be explained to shareholders in an annual or quarterly report, e. g. , write down for a discontinued operation, employee fraud, a lawsuit, or other one-time events. Results are often presented with and without these items. The logic of excluding these items is that investors have a better notion of future performance if one-time events are excluded. Differs from an unusual item in that extraordinary items are (1) material; (2) non-recurring; and (3) outside the ordinary nature of the business. xtraordinary item An infrequently occurring transaction or event that, if material, is reported separately from continuing operations Extraordinary Item A large gain or loss in a companys earnings due to a non-recurring event that is out of the companys control. For example, a water distribution company may have unusually high earnings from sales because a natural disaster required relief organizations to purchase large quantities of clean water. On the other hand, it may have low earnings from sales because all the relief organizations had previously stocked up on water and did not need to buy any more. Extraordinary items are reported separately from the companys other financial statements so as to give a clearer picture of how the company is actually performing. Publicly-traded companies must report extraordinary items to shareholders in quarterly and annual reports and explain why they do not constitute a substantial increase or decrease in the companys health. EXTRAORDINARY ITEMS:Â   From time to time, a business may experience a gain or loss that results from an event that is both unusual in nature and infrequent in occurrence. When these two conditions are both met, the item is deemed to be an extraordinary item, and it is to be reported in a separate category below income from continuing (and discontinued, if applicable) operations. Extraordinary items are to be shown net of their related tax effect, as follows: | What does and does not meet the conditions of unusual in nature and infrequent in occurrence? In the example above, I presumed that a meteorite hitting a business and causing a major loss met both conditions. Although meteorites do occur, it is indeed rare for one to hit a specific business and cause a major loss. It would be very unlikely that this same business would ever sustain this type of loss again. On the other hand, flood losses for businesses located along a river, earthquakes for businesses in the Pacific Rim, wind damage in coastal areas, airline crashes, and the like can give rise to losses that are not unusual in nature and may be expected to reoccur from time to time; these types of items would be reported in continuing operations as a separate line item: Criteria driven rules (e. g. unusual in nature and infrequent in occurrence) can give rise to subjective assessments how would you classify the effects of a tornado in Kansas, a major terrorist attack in New York, a drug recall because of newly discovered health risks, an asset seizure by a foreign government, and so forth? You likely have an opinion on each of these, but there is certainly room for debate. The point is t hat accounting may not always present a single correct solution. Professional judgment is often required, and supplemental notes to the financial statements are always available to further explain unique or challenging accounting issues. ttp://www. principlesofaccounting. com/chapter%2015. htm The income statement of a corporation includes the same types of revenues and expenses as companies organized as sole proprietors and partnerships with one difference. A corporation is a legal entity and therefore, it must pay taxes. The expense for federal and state income taxes is shown on the income statement after other income/(expense), net (the nonoperating income and expenses) as follows: Operating income| $92,500| Other income/(expense), net| | Interest revenue| 5,000| Loss on sale of equipment| (2,400)| Interest expense| (8,000) | Income before taxes| 87,100| Income tax expense| 33,098 | Net income| $54,002 | | Some companies report additional items after income tax expense on their income statements. These items represent special items outside of normal business operations. They are shown separately to ensure users can identify what income from continuing business results will be. If any special items are included on the income statement, the income tax expense or savings related to each item is net against the special item to report it after taxes. These additional special items may be one of three types: discontinued operations, extraordinary items, and changes in accounting principles. Discontinued operations occur when a significant segment of a business has been identified for disposal. Once so identified, any gain or loss from operations of the segment while it is being disposed of and any gain or loss on the sale of the assets of the segment, are reported separately from the remaining, continuing operations. Extraordinary items are events that occur infrequently and are unusual. They can include acts of God as long as they rarely occur in the area where the business operates. Events that would not be extraordinary as they occur regularly, although not yearly, are a severe freeze effecting crops in Florida or an earthquake in southern California. Read more: http://www. cliffsnotes. com/study_guide/Income-Statement. topicArticleId-21248,articleId-21197. html#ixzz16lyVl1RY Discontinued operations and extraordinary items represent financial occurrences that theoretically wont happen often, if ever, again. If an investor or potential investor is evaluating the future prospects of a company, it would make sense to remove extraordinary items and discontinued operations from the picture, because these items should have no bearing on the future. The concerns might be that management misclassifies an ordinary, recurring expense transaction as extraordinary or discontinued in order to improve the results of continuing operations. (YAHOO ANSWERS) What do we mean by discontinued operations and extraordinary items? Why is it important to report discontinued operations or extraordinary items separately from income from continuing operations? Is this method of reporting allowed? What concerns does this type of reporting create? Does the average investor understand the difference? In what way(s) might the information be presented to clarify meaning for investors? See if you can find a company that shows either of these items on their financial statement. Discontinued operations refers to the disposal of a significant component of the business such as the stopping of an entire activity or eliminating a major class of customers. It is important to report discontinued operations separately from continuing operations because the discontinued component will not affect future income statements. Extraordinary items are events and transactions that are unusual in nature and infrequent in occurrence. Therefore, an extraordinary item is a one-time item which is not typical of the company’s operations therefore just like Discontinued operations, they should be reported separately from continuing operations because the discontinued component will not affect future income statements. Yes, this type of reporting is allowed. Since the users of the financial statements – whether creditors, or investors are mainly interested in the company’s Earning Power (the normal level of income to be expected in the future), it becomes important to report such irregular items separately on the income statement. The average investor probably does not understand the difference which is why the presentation of both Discontinued Operations, and Extraordinary items separately clearly indicates the separate effects of those items on net income. ww2. justanswer. com/uploads/ /2010-02-25_094139_Discont__Extra. doc