Presentation of Operating vs. Non-Operating Income in Multi-Step Income Statements

✦ The multi-step income statement separates core operating performance from non-operating and peripheral activities to enhance financial clarity.

✦ Operating income reflects revenue and expenses directly related to the company’s primary business activities.

✦ Non-operating items include interest, investment income, gains and losses from disposals, and unusual or infrequent events.

✦ Accurate classification improves transparency and comparability for users of financial statements.

1. Structure of the Multi-Step Income Statement

✦ The multi-step format divides the income statement into key components:

 • Gross profit = Revenue – Cost of Goods Sold (COGS)

 • Operating income = Gross profit – Operating expenses

 • Income before tax = Operating income ± Non-operating items

 • Net income = Income before tax – Income tax expense

✦ This format distinguishes recurring business performance from non-core items.

2. What Belongs in Operating Income

✦ Operating income includes revenue and expenses directly related to delivering goods or services.

✦ Typical operating items:

 • Sales revenue

 • Cost of goods sold

 • Selling, general, and administrative expenses (SG&A)

 • Depreciation and amortization on operating assets

 • R&D expenses (if core to operations)

✦ Exclude financing and investment activity, which is considered non-operating.

3. What Belongs in Non-Operating Income

✦ Non-operating items are not central to the company’s main business operations.

✦ Typical examples:

 • Interest income and interest expense

 • Gains or losses on disposal of assets

 • Unrealized gains/losses on investments (FVTPL securities)

 • Foreign exchange gains/losses

 • Restructuring charges or legal settlements (if not recurring)

4. Journal Entry Example — Operating Expense

Example:

• Salaries expense for sales department = $40,000

Entry:

debit Salaries Expense – $40,000

 credit Cash / Accrued Liabilities – $40,000

5. Journal Entry Example — Non-Operating Gain

Example:

• Sale of an investment asset: Gain of $12,000

Entry:

debit Cash – $112,000

 credit Investment – $100,000

 credit Gain on Sale of Investments – $12,000

6. Classification Importance

✦ Proper separation improves analysis of:

 • Operating margins and cost efficiency

 • Core profitability trends over time

 • Return on operating assets vs. investment performance

✦ Misclassification can mislead stakeholders about financial health.

7. Presentation Example

Multi-Step Format (Condensed):

• Revenue – $500,000

• COGS – (320,000)

→ Gross Profit – $180,000

• SG&A – (60,000)

→ Operating Income – $120,000

• Interest Expense – (10,000)

• Gain on Investment – 15,000

→ Income Before Tax – $125,000

• Income Tax Expense – (25,000)

→ Net Income – $100,000

8. Disclosure and Consistency

✦ Maintain consistent classification across reporting periods.

✦ Disclose:

 • Unusual or infrequent non-operating items separately

 • Basis for determining classification if judgment is applied

✦ Avoid aggregating material non-operating items into broad categories.

9. Common Errors

✦ Misclassifying interest expense as operating cost

✦ Including asset disposal gains in operating income

✦ Inconsistently classifying similar items across periods or entities

✦ Overlooking the need for separate line-item disclosure of large non-operating items