CHAPTER 32

Statement of Profit or Loss and

Other Comprehensive Income

Questions

Q32-1. Two approaches can be used to measure income: the capital maintenance
approach and the transaction approach. The capital maintenance approach
uses the statement of financial position elements to determine the change in
total equity after eliminating any investments and withdrawals of resources by
owners. The transaction approach determines income by analyzing individual
transactions and events and their effect on related assets, liabilities, and
owners equity. Although the method of determining income differs, both
approaches arrive at the same total income figure if the same attributes and
measurements are used. However, the transaction approach produces more
detail as to the composition of income than does the capital maintenance
approach.

Q32-2. The objectives of reporting income for income tax purposes and for
financial reporting to users are not the same. Those formulating income tax
laws are usually concerned with fairness among taxpayers and with their
ability to pay taxes. Users, on the other hand, are concerned with a measure
that distinguishes between a return on investment and a return of investment.
They want a measure that matches expenses against recognized revenue. In
most cases, the same accounting method can be used for both purposes. This
will reduce both the cost and the confusion of using more than one accounting
method for the same transaction. In some cases, however, the generally
accepted accounting method is different from that required by income tax
regulations. This results in a temporary difference between the tax return and
the books and gives rise to interperiod income tax allocation.

Q32-3. Measurement methods that could be applied to net assets in the capital
maintenance approach to income determination are as follows:
(a) The historical cost of net assets acquired in exchange transactions, reduced
by an allowance for their use.
(b) The historical cost of net assets acquired in exchange transactions, reduced
by an allowance for their use and adjusted for a change in price levels
since original acquisition.
(c) The current value of net assets acquired in exchange transactions as
determined by either their replacement or market values.
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(d) Some variation of the above (a through c) but including in assets all
resources and claims to resources, not just those acquired in exchange
transactions.

Q32-4. Revenues and expenses are related to the ongoing major or central activities of
a business and are reported at gross amounts. Gains and losses are associated
with peripheral and incidental transactions and events and are reported as the
difference between the selling price and the book value (often the depreciated
cost). These classification and display distinctions will depend on the specific
circumstances and activities of an enterprise.

Q32-5. The following two factors must be considered when deciding at what point
revenues and gains should be recognized: (a) The resources from the
transaction are either already realized in cash or claims to cash or are readily
realizable in cash, and (b) the revenues and gains have been earned through
substantial completion of clearly identified tasks and activities. Both factors
are usually met when merchandise is delivered or services are rendered to
customers. This is referred to as the point of sale.

Q32-6. There are three specific exceptions to the general rule that were discussed in
the chapter. They are recognizing revenue (a) at the point of completed
production, (b) at the time of cash collection, and (c) at various points in
time during the operating cycle (e.g., percentage-of-completion method). The
justification for the use of these exceptions is that, in each case, the realization
and earning criteria established by the IASB are met.

Q32-7. Comprehensive income is the change in equity of a business enterprise

during a period from transactions and other events and circumstances from
nonowner sources. It includes all changes in equity during a period except
those resulting from investments by owners and distributions to owners. 1 Net
income is the reported income as required by AFRS. Currently, IFRS does not
require all components of comprehensive income to be disclosed in the
statement of profit or loss and other comprehensive income. For example, it
does not include the effect of error corrections, asset valuation changes, or
some effects of accounting changes.

Q32-8. Some situations in which application of different accounting methods or

estimates lead to comparison problems include:
(a) Inventory methodsweighted average vs. FIFO,
(b) Depreciation Methodsstraight-line vs. accelerated,
(c) Accounting for long-term contractspercentage-of-completion vs.
completed-contract,
(d) Estimates of useful lives or salvage values for depreciable assets,
(e) Estimates of bad debts,
 Statement of Profit or Loss and Other Comprehensive Income 32-3
(f) Estimates of warranty costs.
Q32-9. The transaction approach focuses on the activities that have occurred during a
given period and instead of presenting only a net change, a description of the
components that comprise the change is included. In the capital maintenance
approach, only the net change (income) is reflected whereas the transaction
approach not only provides the net change (income) but the components of
income (revenues and expenses). The final net income figure should be the
same under either approach given the same valuation base.

Q32- Earnings management is often defined as the planned timing of revenues,

10. expenses, gains and losses to smooth out bumps in earnings. In most cases,
earnings management is used to increase income in the current year at the
expense of income in future years. For example, companies prematurely
recognize sales before they are complete in order to boost earnings. Earnings
management can also be used to decrease current earnings in order to increase
income in the future. The classic case is the use of cookie jar reserves, which
are established by using unrealistic assumptions to estimate liabilities for such
items as sales returns, loan losses, and warranty costs.

Q32- Earnings management has a negative effect on the quality of earnings if it

11. distorts the information in a way that is less useful for predicting future cash
flows. Within the Conceptual Framework, useful information is both relevant
and a faithful representation. However, earnings management reduces the
reliability of income, because the income measure is biased (up or down)
and/or the reported income is not representationally faithful to that which it is
supposed to report (e.g., volatile earnings are made to look more smooth).

Q32- Income is increases in economic benefits during the accounting period in the
12. form of inflows or enhancements of assets or decreases of liabilities that result
in increases in equity, other than those relating to contributions from
shareholders.

Q32- (1) Interest expense is reported on the statement of profit or loss and other
13. comprehensive income between income from operations and income
before income taxes.
(2) Income tax expense is reported between income before income tax and
income from continuing operations on the statement of profit or loss and
other comprehensive income.

Q32- The nature of expense classification uses a natural expense approach (such as
14. direct labor incurred, advertising expense, depreciation expense) without
having to make arbitrary allocations.
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Q32- (a) The remaining book value of the equipment should be depreciated over the
15. remainder of the five-year period. The additional depreciation (P425,000)
is not a correction of an error and is not shown as an adjustment to retained
earnings. The change is considered a change in estimate.
(b) The loss should be shown as an other income and expense item.
(c) The write-off should be shown as an other income and expense item.
(d) Interest expense should be shown as a deduction from Income from
operations.
(e) A correction of an error should be considered a prior period adjustment and
the beginning balance of Retained Earnings should be restated, if
material.
(f) The cumulative effect of the change is reported as an adjustment to
beginning retained earnings. Prior years statements are recast on a basis
consistent with the new standard.

Q32- GABRIEL COMPANY

16. Statement of Profit or Loss and Other Comprehensive Income
For the Year Ended 2015
(in thousands of Philippines)
Net income P150
Unrealized gain related to revaluation of buildings 10
Unrealized loss related to available-for-sale securities (35)
Items not recognized on the statement of profit or loss and (25)
other comprehensive income
Total comprehensive income P125

Exercises

E32-1. DIAMOND CO.

Statement of profit or loss and other comprehensive income
For the Year 2015
Sales P540,000
Cost of goods sold 330,000
Gross profit 210,000
Selling expenses P120,000
Administrative expenses 10,000
Income before income tax 80,000
Income tax 25,000
Net income P 55,000
 Statement of Profit or Loss and Other Comprehensive Income 32-5
Earnings per share P0.55*
*P55,000 100,000 shares.
Note: The increase in value of employees is not reported.

E32-2. (a) Other income and expense = P800,000 P500,000 P220,000 = P80,000
(b) Financing costs = P220,000 P200,000 = P20,000
(c) Income tax = P200,000 P100,000 = P100,000
(d) Discontinued operations = P100,000 P90,000 = (P10,000)
(e) Other comprehensive income = P120,000 P90,000 = P30,000

E32-3. 1. Income from operations = P100,000 P55,000 P10,000 + P30,000 =

P65,000
2. Income before income tax = P65,000 P5,000 = P60,000
3. Net income = P60,000 (P60,000 X 20%) = P48,000

E32-4. Income before income tax = P430,000 P20,000 = P410,000

Net income = P410,000 (P410,000 X 30%) = P287,000

E32-5. Income from continuing operations P10,600,000

Discontinued operations
Loss from operation of discontinued
restaurant division (net of tax) P315,000
Loss from disposal of restaurant division
(net of tax) 189,000 (504,000)
Net income P10,096,000
Earnings per share
Income from continuing operations P1.06
Discontinued operations, net of tax (0.05)*
Net income P1.01
*Rounded

E32-6. P1,000,000 250,000 P3.95 per share

=
190,000

E32-7. (a) Net income (Dividend revenue) P3,000,000

(b) Net income P3,000,000
Unrealized holding gain 4,000,000
Comprehensive income P7,000,000
(c) Unrealized holding gain (Other comprehensive P4,000,000
income)
(d) Accumulated other comprehensive income,
January 1, 2015 P0
Unrealized holding gain 4,000,000
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Accumulated other comprehensive income,

December 31, 2015 P4,000,000

E32-8. Cash Collected Amount of

or Collectibility Work Revenue to Be
Reasonably Assured? Completed? Recognized
a. No Yes P0
Yes No 0
Yes Yes 170,000
Total revenue to be recognized this year P170,000

E32-9. Net assets, end of period P345,000

Net assets, beginning of period 170,000
Increase in net assets P175,000
Deduct investment by owners 100,000
Income P75,000

E32- Net assets, end of period P345,000

10.
Net assets, beginning of period 170,000
Increase in net assets P175,000
Deduct investment by owners 100,000
Income, financial capital maintenance P75,000
Deduct increase necessary to maintain physical 65,000
capital
Income, physical capital maintenance P10,000

E32- 2016 2015 2014

11.
Sales P5,000 P3,000 P2,000
Oil and gas exploration 700 1,200 1,500
expense
Income before income P4,300 P1,800 P500
taxes
Income tax expense (30%) 1,290 540 150
Net income P3,010 P1,260 P350
 Statement of Profit or Loss and Other Comprehensive Income 32-7

Problems

P32-1. (a)The receipt of an order from a customer does not constitute realization, nor
does it qualify as an earnings activity. Therefore, no revenue is recognized.
(b) There has been no sale of the asset to support the recognition of revenue.
Production remains to be performed, followed by sale of the finished
product. Accretion may give rise to revenue in certain instances in which it
can be objectively determined and the product has a ready market at a
definite price.
(c) The rendering of services is the earning activity, and it is assumed that a
valid claim exists against the client. The recognition criteria are met.
(d) The appreciation in value of the land is generally not recognized because it
is not yet realized.
(e) The receipt of cash meets the realization criteria; however, the revenue is
generally not reported as earned because the product has not yet been
delivered. Some argue that an estimate of the costs incurred to honor the
certificate can be made so that revenue could be recognized at the time of
certificate sale.
(f) Collection of cash on the subscriptions is realization. However, the earning
activity has yet to take place.
(g) The retirement of debt at less than the recorded liability results in the
recognition of a gain. The retirement of the debt meets the recognition
criterion for gains.

P32-2. (a) The revenue is unearned in 2016. The credit is to the liability account
Unearned Rent Revenue.
(b) Revenue of P60,000 is to be recognized in 2016: P10,000 in cash plus a
note for P50,000. In addition, interest revenue of P3,000 is recognized in
2016 (P50,000 0.12 1/2 year). The P3,000 interest revenue to be
earned in 2017 will not be recorded until 2017.
(c) Transactions in a companys own stock are not considered an income-
generating activity. The amount received above par is credited to
Additional Paid-In Capital.
(d) Because a claim against the customer (an asset) is created when the
merchandise is shipped and actions to prepare and ship the inventory are
felt to represent the earning activity, revenue is recognized at the time of
sale. In theory, the possibility of return should be evaluated and recorded
as a reduction of revenue if some return is probable and the value of the
return can be estimated. Similarly, the probability of a customers taking a
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cash discount should be considered and a reduction made to revenue for

estimated cash discounts. In practice, both sales returns and cash
discounts are usually not recorded until they actually occur.
(e) This is a difficult one. As discussed in Chapter 8, under the provisions of
SAB No. 101 the SEC generally does not allow the recognition of revenue
until title transfers. In such a case, the receipt of the 15% down payment
would be recorded as a debit to Cash and a credit to a liability such as
Deposit Liability.
(f) The initial agreement does not represent a claim against the client until the
contract is at least partially complete. Because part of the work was
accomplished in 2016, a portion of the revenue could be recognized in
2016 on a percentage basis. However, because the bulk of the work will
be done in 2017, revenue could be deferred until the audit is completed
and billed.

P32-3. (a) Immediate recognition. The future benefits of the new drug are highly
uncertain.
(b) Direct matching. The warranty costs are anticipated expenses that are
directly related to revenues.
(c) Systematic and rational allocation. The lease agreement benefits several
accounting periods in a systematic and rational way.
(d) Direct matching. Labor associated with assembling a product is matched
with revenues and reported in the period the goods are sold.
(e) Systematic and rational allocation. The delivery trucks are expected to
benefit several accounting periods in a systematic and rational way.
(f) Immediate recognition. The advertising indirectly helps to generate
revenues and is not related to specific revenues.

P32-4. (a) Subtracted or included in determining net purchases in the Cost of Goods
Sold section
(b) Other revenues and gains
(c) Other revenues and gains
(d) Other expenses and losses
(e) Either extraordinary items or other expenses and losses depending on
whether unusual and infrequent
(f) Operating expensesselling expenses
(g) Discontinued operations
(h) Deduction from income from continuing operations before income taxes
(i) Other revenues and gains
(j) Subtraction from sales
(k) Other expenses and losses
 Statement of Profit or Loss and Other Comprehensive Income 32-9

(l) Cost of goods sold (an item entering into cost of goods manufactured)
(m) Operating expensesgeneral and administrative
(n) Cost of goods sold

P32-5. (a) Discontinued operations:

Loss from operations of discontinued
business component (including gain on
disposal of P23,000) P(187,000)
Income tax benefit 56,100 P(130,900)
(b) If Jessie Manufacturing were reporting using the accounting standards of
the Philippines, it would also disclose information about sales and
operating profits for the continuing and discontinued operations. This
additional information allows financial statement users to compare the
relative size and operating profitability of the continuing and discontinued
operations. This practice is also similar to the reporting requirements of
PAS 35.

P32-6. 2016 2015 2014

Reported net income P128,000 P119,000 P98,000
Divided by (1 tax rate) 0.70 0.70 0.70
Reported income before tax P182,857 P170,000 P140,000

Add back old cost of goods sold 25,000 29,000 31,000

P207,857 P199,000 P171,000
Subtract new cost of goods sold 19,000 21,000 24,000
Revised income before tax P188,857 P178,000 P147,000
Tax expense (0.3) 56,657 53,400 44,100
Revised net income P132,200 P124,600 P102,900
The adjustment to January 1, 2014, Retained Earnings would
summarize the effect of the different inventory valuation methods for
all years prior to 2014. The amount of the adjustment would be a
P9,100 increase [P13,000 (1 30% tax effect)].

P32-7. 1. The unrealized losses on available-for-sale securities will decrease

comprehensive income because the value of the securities decreased
during the year. The currency translation adjustment will decrease
comprehensive income because the value of the currencies of Cabreras
subsidiaries weakened relative to the Philippine peso. The deferred loss
on derivatives adjustment will decrease comprehensive income.
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2. Cabrera Incorporated
Statement of Comprehensive Income
For the Year Ended December 31, 2016
Net income P17,650
Unrealized losses on available-for-sale securities (1,285)
Foreign currency translation adjustment (287)
Deferred loss on derivatives adjustment (315)
Comprehensive income P15,763

P32-8. 1. Lim Inc.

Schedule of Corrected Net Income
For the Year Ended December 31, 2016
Reported net income (profit and loss) P12,760
Add: Change in amortization expense P3,100
Gain on sale of land 17,420
Interest revenue 3,900 24,420

Less: Increased depreciation P6,400

change in estimate
Loss on sale of equipment 2,490
Extraordinary casualty loss 25,310 34,200
Corrected net income P2,980

2. Lim Inc.
Retained Earnings Statement
For the Year Ended December 31, 2016
Retained earnings, January 1, 2016 P76,843
Add: Net income 2,980
P79,823
Deduct: Dividends declared 12,000
Retained earnings, December 31, 2016 P67,823
3. All items except dividends declared during the year would be reported
on the statement of profit or loss and other comprehensive income and
included in net income. Extraordinary items would be reported
separately after income from continuing operations.
Statement of Profit or Loss and Other Comprehensive Income 32-11