MEMO
From Carter Hawley Hale Stores Controller
To Chief Financial Officer (CFO) of Carter Hawley Hale Stores
RE: RECOMMENDATIONS ON HOW TO REPORT FINANCIAL RESULTS IN THE INCOME STATEMENT AFTER THE OCCURRENCE OF AN EARTHQUAKE
In recent operations of our business, an unusual earthquake of a 7.1 Richter scale occurred in San Francisco Bay where we operate twenty two stores. The occurrence affected the operations of our business scale to a significant magnitude. The business had to close twelve stores in the area as a result of the earthquake. In California, we operate 43 stores that are also facing the threat of earthquakes. I am writing this memo to offer recommendations on how to report the effect of the earthquake occurrence in the income statement (Delaney & Whittington, p 167).
California faces frequent earthquakes whereas San Francisco Bay faces an infrequent occurrence of earthquakes. From the reports at my desk, our businesses in California face several earthquakes that are small in magnitude each year. In comparison, San Francisco last experienced an earthquake eighty three years ago. This presents a delicate situation because one occurrence is usual (earthquake occurrence in California) and the other unusual (Delaney, P & Whittington, p 168).
Losses resulting from the occurrence of earthquake in San Francisco Bay should be reported in the income statement, but in a separation section from other items. Delaney and Whittington note that, “Generally Accepted Accounting Principles require that unusual items be reported separately on the income statement. Without separate reporting of these items, users of the financial statements might be misled about current and future operations.” The losses associated with the earthquake are supposed to be classified as extraordinary items because the earthquakes are infrequent in nature. The company recorded an after tax loss of $ 7.03 million shillings (total damages of $16.5 million less before earthquake loss of $9.47 million).
The financial results from the stores located in California will be recorded together with other items because the occurrence of the earthquake is routine. Every financial year, the business faces some amount of losses as a result of small earthquakes occurring in the area. The users of the financial statements are aware of the regular losses associated with the regular earthquakes. However, the losses must be indicated to be related with the frequent earthquakes in the income statement. “Extraordinary items shall be disclosed separately and included in the determination of net income for the interim period in which they occur. In determining materiality, extraordinary items shall be related to the estimated income for the full fiscal year. In addition, matters such as unusual seasonal results, business combinations, and acquisitions by not-for-profit entities shall be disclosed to provide information needed for a proper understanding of interim financial reports,” (Financial Accounting Standards Board Accounting Standards Codification)
In addition to the damages associated with the earthquakes, the company was forced to close down some of its stores resulting in some losses for the company. According to Delaney and Whittington (p 168), the losses are to be classified under discontinued operations and should be recorded separately from income from income from continued operations in the income statement. The income statement should also contain additional information on the discontinued operations resulting from the earthquake. Delaney and Whittington (p 167) note, “A note accompanying the income statement should describe the operations sold including such details as the date operations were discontinued, the assets sold, and the effect (if any) on current and future operations.”
The loss as a result of discontinued operations can be calculated by adding the loss as a result of closure of operations to the loss resulting from disposing the equipment. Discounted operations costs include the costs of relocating employees as a result of discontinued operations and disposal of assets. According to Delaney and Whittington (p 167) gains or loss from operations should be combined with the loss on disposal. It is therefore required that the company determines all the exact figures associated with discontinued operations (from the total figure of $7.03 million). Generally, reporting unusual losses will precede the total gain or losses associated with changes in accounting methods and succeed discontinued operations.
