ComprehensiveIncome
“Comprehensive Incomeis the change in equity (net assets) of an entity during a period fromtransactions and other events and circumstances from non-owner sources. It includes all changes in equity during aperiod except those resulting from investments by owners and distributions toowners. It includes net income and otherrevenues, expenses, gains, and losses that under generally accepted accountingprinciples are included in comprehensive income but excluded from netincome. Some parts of comprehensiveincome presently bypass the income statement and are reported in a separateequity section of the balance sheet.” Comprehensive income consists of two main categories of net income andother comprehensive income.
«Net income is an enterpriseperformance measure favored by many financial statement users. However, several income items are not shownon the income statement. Numerous groupsof financial statement users have called for revision of the number of incomeitems that bypass the income statement. The accumulated balances of these items are currently reported inpermanent equity accounts in the balance sheet, not on the incomestatement. Although discussed in U.S.accounting literature for over twenty years, the concept of a comprehensiveincome that captures these income items first became popular outside the UnitedStates. The first accounting standardaddressing the issue was enacted in Europe. In 1992, the United Kingdom Accounting Standards Board issued FinancialReporting Standard 3 that introduced a statement of total recognized gains andlosses as a Accounting Standards Committee issued an exposure draft of a newincome standard and modified it in 1997. It is conceptually similar to recent U.S. comprehensive incomeefforts.»[i]
In December 1980, the Financial Accounting Standards Boardformally defined comprehensive income in Concepts Statement No.6, as «thechange in equity of a business enterprise during a period from transactions andother events and circumstances from non-owner sources.” Description ofcomprehensive concept in Statement #130 covers wider rage of things thanStatement #6. At the same time, FASBidentified in Statement No. 5 thatcomprehensive income and its components should be reported as part of a fullset of financial statements for a period. This project was added to the Board’s agenda in September 1995, at theurging of financial statement users. Inparticular, the Association for Investment Management and Research wanted FASBto expand the reporting for items of comprehensive income.
In June 1997, Financial Accounting Standards Board issued anew Statement of Financial Accounting Standards #130 “Reporting ComprehensiveIncome.” This act was partiallytriggered by the AIMR’s (Association for Investment Management and Research)call for more explicit Comprehensive Income. “The new figure will shine a bright, embarrassing light on items thatare now buried in shareholders’ equity, as well as items executives can use toeven out bumpy earnings growth,” says Bear Stearns accounting expert PatMcConnell. However even the newstatement did not cover what probably it should have covered. The new statement coped only with reportingand presentation of the components of comprehensive income, but it did notexplain when they should be recognized and how they should be measured.
Nowadays, the market is very volatile and fair market valuesof the assets might change instantly. Inturn, change in fair market value leads to losses or gains in general value ofa company. If these effects find theirreflections on the income statement, it will mean very sudden high and lowincome reported by the company. Thereason why FASB adopted the concept of comprehensive income is to giveinvestors a full picture of the financial position of the company. Traditional income statement does not includesome of the items, but included in the equity section of the balancesheet. These items are:
· Unrealized gains (losses) onavailable-for-sale securities
· Change in foreign currency exchangerates
· Adjustments to minimum pensionliability
· Hedging gains or losses.
Unrealized gains or losses on available-for-sale securitiestake place when the fair market value of the securities is different than theone of the balance sheet. To beconsistent with accounting regulations, the company has to correct its assets’value on the balance sheet. These gainsor losses do not appear on the income statement because their effect mightmislead the investors, in terms of temporary income of the company. On the other hand, the investors should beaware of these gains or losses, and this is the reason for comprehensive incometo exist. The owner’s equity section ofthe balance sheet accumulates these changes in the value of the securities.
There are many multinational companies right now on themarket. These companies are subject togains or losses, the origin of which is change in exchange rates of thecurrencies. These gains or losses do nothappen due to routine operation of the company and that is why they mightmislead investors’ opinion of the company. The effect of these changes is included in the comprehensiveincome.
Underfunded pension obligation necessitates an adjustment tothe minimum liability in order to be consistent with accountingregulations. It is not an obligation forthe company, but certainly influence future net incomes, and that is why itshould be included in comprehensive income.
The hedging gains or losses arisedue to futures contracts. A change isthe market value of a futures contract that qualifies as a hedge of an assetreported at fair value, unless earlier recognition of a gain or loss in incomeis required because high correlation has not occurred (SFAS #115).
Thereare three ways to present comprehensive income:
· A separate income statement isprepared
· A comprehensive income is combinedwith income statement
· A comprehensive income isrepresented as a part of the statement of stockholder’s equity
For some of the companiesimplementation of reporting comprehensive income had «negative» orpositive effect on «bottom-line income.» For instance, General Motor’s had
negativeimpact (-64.1%) and Citibank had positive (18.3%). Out of 24 major corporations, 15 reported alower comprehensive income than their net income, and only nine of themdisplayed an increase in comprehensive income in comparison with netincome.
Increased (decreased) by
General Motors
-64.10%
Wal-mart
-15.00%
Coca-Cola
-14.90%
Procter & Gamble
-11.70%
Chase-Manhatan
-11.50%
Ford Motor
-10.80%
IBM
-9.70%
Johnson & Johnson
-9.40%
Texaco
-7.70%
Eli Lilly
-6.30%
Phillip Moris
-3.90%
Exxon
-2.80%
Mobil
-1.60%
Dupont
-0.60%
Merck
-0.30%
Chrysler
0
Hewlett Packard
0
Disney
0.10%
BankAmerica
0.60%
Microsoft
0.70%
AT&T
0.80%
Intel
1.40%
NationsBank
2.90%
Pepsico
3.50%
General Electric
7.60%
Citibank
18.30%
Such new standards are often asource of frustration, especially to smaller, nonpublic entities and theirCPAs. This frustration, often called standards-overload,arises both from the frequent issuance of new and often complicated standardsand from the lack of perceived information benefit in financialstatements. The overload andimplementation costs stemming form SFAS #130 can be substantially eliminatedthrough reclassification of the available-for-sale securities as tradingsecurities, and this is what small private corporations usually do.
Regarding reporting financial performance, internationalstandards say the following:
· IAS 1 requires presentation of astatement showing changes in equity. Various formats are allowed:
1) The statement shows (a) each itemof income and expense, gain or loss, which, as required by other IASCStandards, is recognized directly in equity, and the total of these items,certain foreign currency translation gains and losses (IAS 21, The Effects ofChanges in Foreign Exchange Rates), and changes in fair values of financialinstruments (IAS 39, Financial Instruments: Recognition and Measurement)) and (b) net profit or loss for the period,but no total of (a) and (b). Owners’investments and withdrawals of capital and other movements in retained earningsand equity capital are shown in the notes.
2) Same as above, but with a total of(a) and (b) (sometimes called “comprehensive income”). Again, owners’ investments and withdrawals ofcapital and other movements in retained earnings and equity capital. An example of this would be the traditional multicolumnstatement of changes in shareholders’ equity. Bibliography
[i]The impact of reporting comprehensive income, Ohio CPA Journal; Columbus;Jan-Mar 1999; Richard J Schmidt.
Comprehensive income reporting andanalysts’ valuation judgements, Journal of Accounting Research; Chicago; D EricHirst; Patrick E Hopkins.
How companies are complying with thecomprehensive income disclosure requirements; Ohio CPA Journal; Columbus;Jan-Mar 1999; Linda Campbell; Dean Crawford; Diana R Ranz.
Reporting Comprehensive Income; The Secured Lender; New York; Mar/Apr 1998; Eran Echreiber.
Discussion if comprehensive incomereporting and analysts’ valuation judgements; Journal of Accounting Research; Chicago; 1998; Marlys Gascho Lipe;
www.iasc.org.uk
Avoiding the implementation costs ofSFAS #130; The CPA Journal; New York; Jun 1999; Norman H Godwin; C Wayne Alderman;
Disclosure of comprehensive incomemay be confusing; Texas Banking; Austin; Oct 1996; Harrison, John S; Lynch, Chris;
The call for reporting comprehensiveincome; Financial Analysts; Charlottesville; Mar/Apr 1996; Cope, Anthony T; Johnson, LTodd; Reither.
Comprehensive income; Management Accounting; New York; Dec 1995; Bisgay, Louis.