The P&L - How'd You Do?

The P&L is where you go to report on the results of operations. 

Below the operations data, you'll find the D-E-C effects, which are:

• Discontinued Operations
• Extraordinary Items
  
• Changes in Accounting Principles

DEC effects are presented separately, net of tax. 

REVENUE RECOGNITION

Revenues are inflows from delivering goods, services, or whatever else is the core business. 

Gains are increases in equity from peripheral, incidental transactions. 

Realization is what it's called when the earning process is complete (IE, you've sold the product, done the work, whatever), and when an exchange has taken place.

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For Contract Accounting, there are two acceptable methods of revenue recognition:

• Completed Contract, where all costs are deferred and matched against revenue in the year of completion. This is ideal when cost estimates aren't reliable. 
• Percent-Of-Completion, where revenue's recognized each year based on engineer estimates of work completed. This is idea when cost estimates are reliable. 

Under both methods, losses are immediately recognized and booked in full. And in terms of balance sheet presentation, an excess of costs & profits over billings are a current asset; if billings > costs & profits, it's a current liability. 

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For Installment Sales, payments received are treated partly as a return of costs and partly profit. A percentage of profit is this deferred and recognized as collections are made. 

Installment sales typically aren't acceptable under GAAP, except when either the selling price isn't reasonably assured or the collectibility is in question; however, they're often used for tax. A few other things to consider for installment sales:

• Create a separate AR account, so it's not co-mingled with standard trade receivables.
• Gross Profit % is what's to be recognized annually.
• Unrealized Gross Profit = GP% * AR Balance. This is what's deferred
• Realized Gross Profit = GP% * Cash Collections. 
• Defaults = any losses will be Installment AR - Deferred GP. If merchandise is repo'd and recovered, record at FV, reduce the loss by this amount. 
• Interest Income = report as income in period earned, separate from realized GP. 

The Cost Recovery method is when equal amounts of revenue and expense are recognized as collections are made until all costs have been recovered, postponing any profit recognition. 

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When does the right of return exist? Revenue is recognized at the time of the sale only if:

• Price is fixed
• Buyer's paid in full and there's no contingency
• Future return amounts can be reasonably estimated

If you're a franchise, collecting franchise fee revenue, you'll recognize this revenue when it's been earned and when collectibility is assured. If the initial fee is much bigger than the ongoing fees, and services are to be performed in the future, it's appropriate to instead defer and amortize. 

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Real Estate Sales! For anything non-retail, full profit is recognized when determinable and reasonably assured collectibility. If either of these are unsure, use the installment, cost recovery, or deposit method. 

For retail land sales, full profit is recognized with the expiration of the refund period, and collectibility is assured. If there's a problem with either, use percent-of-completion or installment. 

EXPENSES

The definition is that they're the using up of assets or incurring of liabilities through sales. Losses are incidental transactions which are ultimately reductions in equity. 

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The Matching Principle is an important concept. "Let the expense follow the revenue." 3 methods to do this:

• Associating Cause & Effect, as in through sales commissions
• Systematic & Rational Allocation, as in through depreciation. 
• Immediate Recognition. 

Depreciation Methods:

• Straight Line: [(Cost - Scrap Value)] / Userful Life
• Activity Method [(Cost - Scrap Value)]/Userful Life Per Unit
• Sum-Of-Years Method [(Years of Life @ BGN/Sum of Years)] * (Cost - Scrap Value)
• Declining Balance Method (Book Value @ BGN) * (SL% * 2)

Royalties are expensed in the current period. 

R&D are expensed in the current period. 

DISCONTINUED OPERATIONS

These are reported separate to the results of continuing ops, net of tax. 

A Segment of a Business is a component of a business whose activities represent a separate major LOB. Call it a sub, a division, whatever. Point is that its assets and activities need to be clearly distinguished. 

The Measurement Date of Disposal is whatever date management commits to a plan to dispose of a segment. 

The Disposal Date is the dale of the sale closing. 

Components of Discontinued Ops:

• Income/Loss From Operation of Discontinued Segment - this, through the measurement date, is shown net of tax
• Gain/Loss on Disposal of Discontinued Segment - sum of the gain/loss from the disposal of the equity + income/loss from operating the segment from the measurement date through the disposal date. 

Additional Disclosures

• Identity of the segment being discontinued
• Expected disposal date
• Expected manner of disposition
• Description of assets/liabilities of the segment at the balance sheet date

If there's a gain on discontinued ops, it should recognized only when realized. 

EXTRAORDINARY ITEMS

Criteria for this classification - highly abnormal, and not expected to recur. 

These are shown on the P&L net of tax, below a line called "Income Before Extraordinary Items."

If there's something that's highly abnormal or not expected to recur, but not both, that can be disclosed as separate components of income before extraordinary items. To make it clear that they're not "extraordinary," don't show them net of tax. 

ACCOUNTING CHANGES

Change in Accounting Principle

• Retrospective application
• If impractical, changes should be applied to balances of assets & liabilities, offset to retained earnings. 

Change in Accounting Estimate

• Prospective application

Change in Reporting Entity

• Restatement of all prior periods

Correction of an Error

• Prior-period adjustment; comparative statements for prior periods are restated
• Effects from PY are presented as an adjustment to opening retained earnings. 
• Error examples: non-GAAP or misapplication, math

Prior-Period Adjustments are to be made directly to the balance of opening retained earnings, net of tax. 

EARNINGS PER SHARE

Basic EPS

• Earnings available to Common Shareholders / Weighted Average Shares Outstanding
• The numerator is basically net income minus preferred dividends declared. 
• For the denominator, need to consider things like stock splits, stock dividends, new shares issued, t-shares. 

Diluted EPS

• Takes into account other potential effects like convertible debt/equity, options, warrants, other rights. 

​Both items are displayed on the P&L, with equal prominence.