THE SUSTAINABLE EARNINGS WORKSHEET
The sustainable earnings worksheet is shown in Exhibit 2.26. Detailed instructions on completing the worksheet follow:
1. Net income or loss is recorded on the top line of the worksheet.
2. All identified items of nonrecurring expense or loss, which were included in the income statement on a pretax basis, are recorded on the “add” lines provided. Where a prelabeled line is not listed in the worksheet, a descriptive phrase should be recorded on one of the “other” lines and the amounts recorded there. In practice, the process of locating nonrecurring items and recording them on the worksheet would take place at the same time. However, effective use of the worksheet calls for the background provided earlier in the chapter. This explains the separation of these steps in this chapter.
|These Topics Are Also In Your Syllabus|
|1||USING FINANCIAL RATIOS||link|
|2||COMBINING FINANCIAL RATIOS||link|
|You May Find Something Very Interesting Here.||link|
|3||THE Z SCORE||link|
|4||INTRODUCTION TO ANALYZING BUSINESS EARNINGS||link|
|5||THE NATURE OF NONRECURRING ITEMS||link|
3. When all pretax nonrecurring expenses and losses have been recorded, subtotals should be computed. These subtotals are then multiplied times 1 minus a representative combined federal, state, and foreign income-tax rate. This puts these items on an after-tax basis so that they are stated on the same basis as net income or net loss.
4. The results from step 3 should be recorded on the line titled “tax-adjusted additions.”
5. All after-tax nonrecurring expenses or losses are next added separately. These items are either tax items or special income-statement items that are disclosed on an after-tax basis under GAAP, such as discontinued operations, extraordinary items, or the cumulative effect of accounting changes. The effects of LIFO liquidations are sometimes presented pretax and sometimes after-tax. Note that a line item is provided for the effect of LIFO liquidations in both the pretax and after-tax additions section of the worksheet.
6. Changes in deferred-tax-valuation allowances are recorded in the taxadjusted additions (or deductions) section only if such changes affected net income or net loss for the period. Evidence of an income-statement impact will usually take the form of an entry in the income tax ratereconciliation schedule.
7. The next step is to subtotal the entries for after-tax additions and then combine this subtotal with the amount labeled “tax adjusted additions.” The result is then recorded on the “total additions” line at the bottom of the first page of the worksheet.
8. Completion of page 2 of the worksheet, for nonrecurring revenues and gains, follows exactly the same steps as those outlined for nonrecurring expense and loss.
9. With the completion of page 2, the sustainable earnings base for each year is computed by adding the “total additions” line item to net income (loss) and then deducting the “total deductions” line item.