Discontinued Operations Should Be Reported on the Income Statement: Here’s How

Reporting discontinued operations on the income statement is vital for financial transparency and accuracy. Investors and stakeholders rely on this information to evaluate a company’s ongoing performance and future prospects. Proper classification ensures financial statement users can distinguish between continuing and non-continuing business activities.

Criteria for Classification

The classification of discontinued operations follows standards like International Financial Reporting Standards (IFRS) and U.S. Generally Accepted Accounting Principles (GAAP). A component qualifies as discontinued if it has been disposed of or is classified as held for sale and represents a major line of business or geographical area of operations. This distinction focuses financial statements on ongoing operations, offering a clearer view of a company’s future performance.

To meet the criteria, the disposal must be part of a coordinated plan to exit a major business line or region. Examples include selling a subsidiary, closing a division, or ceasing operations in a specific market due to economic or regulatory challenges. The operations must meet the definition of a component, and the sale must be highly probable within a year. This involves factors like the presence of a committed buyer and necessary regulatory approvals. The financial impact of discontinued operations must also be separately disclosed, enabling stakeholders to gauge the company’s financial health.

Presentation in the Income Statement

Discontinued operations are reported separately from continuing operations, typically below income from continuing operations. IFRS 5 and ASC 205-20 require this separation to provide a more accurate picture of ongoing business performance. The presentation includes the results of the discontinued operations and any gains or losses associated with the disposal.

The income statement must detail revenue, expenses, pre-tax profit or loss, and related income tax effects of discontinued operations. Notes in the financial statements should explain the nature of the discontinued operations, reasons for disposal, and any significant changes in the company’s business strategy.

Calculation of Gains or Losses

Gains or losses from discontinued operations are calculated as the difference between the carrying amount of the operation’s assets and liabilities and their fair value at the time of disposal. This calculation includes accumulated depreciation or amortization, which can significantly affect the carrying amount.

Tax implications play a crucial role, as gains may be subject to capital gains tax, while losses could offer tax relief. Deferred tax liabilities or assets arising from the disposal must also be considered. Transaction costs, such as legal fees and broker commissions, are factored into the calculation, as are adjustments for foreign currency translation when international assets are involved.

Adjustments in Comparative Periods

Adjustments to comparative periods ensure consistency and comparability of financial statements over time. This involves restating prior periods to exclude the impacts of discontinued operations as if they had been disposed of at the beginning of the earliest period presented. Such adjustments allow for accurate comparisons of continuing operations across periods.

Restating prior periods requires adjusting income statement figures and related notes and disclosures. For example, revenue and expenses from a discontinued division must be removed from past income statements, and related balance sheet items must be updated to reflect the changes.

Impact on Earnings per Share

Discontinued operations affect a company’s earnings per share (EPS), a key metric for investors. EPS is calculated by dividing net income attributable to common shareholders by the weighted average number of shares outstanding. The impact of discontinued operations is reported separately to provide clarity on earnings from continuing operations.

Companies must disclose both basic and diluted EPS from continuing operations and discontinued operations. This separation ensures stakeholders can assess ongoing profitability without distortion from one-time gains or losses. For example, a significant profit from selling a division could inflate net income temporarily, but segregating its impact offers a clearer view of sustainable earnings.

EPS calculations for discontinued operations must account for changes to the weighted average shares outstanding, such as those resulting from share issuances or repurchases linked to the disposal. Anti-dilutive effects must also be considered when calculating diluted EPS, ensuring compliance with ASC 260 or IAS 33. Transparent reporting, supported by explanatory notes, fosters investor confidence and aids in accurate company valuation.