When we calculate CFO by using indirect method, we add/subtract unusual or infrequent items such as gain/loss on sale of equipment. Why do we not make any adjustment for discontinued or extraordinary items? They also come before net income and they are not operating items… Thanks!
We don’t add/subtract unusual or infrequent items because they are so. We do it because of their cash impact. Same thing with discontinued or extraordinary items. So, the reason we add back loss on sale of equipment because when we calculated net income we deducted the loss, which did not cost us any cash…e.g., we has an asset on teh books worth $100k, but we sold it for $80k. We actually received $80k in cash, but we recorded a loss of $20k in the income statement. This $20k of loss is not cash at all, so we add it back to arrive at the actual cash involved.
So, if we have a loss because of extraordinary items, do we add it back to Net Income to calculate CFO? For example, there was an explosion and we had a loss of $1 mil. Do we add it back to Net Income? Thanks
I am not sure about extraordinary items treatment, but for discontinued operations, yes you would add/subtract from net inome to calculate CFO. My guess is that for extraordinary items, it would depnend on the nature of the item. If it is considered investing item, then add/subtract from CFI, etc. Chime in folks.
hi to my understanding extraordinary items are included in Net income before tax. and discontinued items are not included in net income.they are added after net income.net of tax.(income/loss from discontimued operations) cheers abhi
No, both extraordinary and discontinued items come net of tax after “Income from contiuing operations”. So they are in the same boat.
Anybody else?
extraordinary and discontinued are shown net of tax on the income statement after net income from continuing operations. Unusual or infrequent items are included above net income from continuing operations pre tax. To the extent that either of these items affects cash flows, it would need to be reconciled on the cash flow statement to get your cash flow statement to agree to your balance sheet
To use the example of the explosion and a $1MM loss, we would state the amount as an extraordinary loss net of tax. This entry enables us to remove the asset from the balance sheet and reduce equity… We then add the extraordinary loss back to CFO to adjust for it’s non cash nature. CFI would not be affected as this is a non-cash transaction.
Ok, I see…Anything named loss/gain is noncash charge and adjustment to Net Income is neccessary while calculating CFO. Thank you all…