Definition
Discontinued operations refer to parts of a company’s business that it has disposed of or plans to dispose of. They often represent a considerable part of a company’s assets and may involve a separate major line of business or geographical area of operations. For financial reporting purposes, the results of these operations are segregated from the company’s continuing operations and reported separately on the income statement.
Key Takeaways
- Discontinued Operations refer to a component of a company’s business that the company has disposed of or is planning to dispose of. They represent separate major lines of business or geographical areas of operations that are no longer a part of the company’s continuing operations.
- Financial results from discontinued operations are separately stated on a company’s income statement. This is to differentiate these results from the results of continuing operations, allowing investors and stakeholders to assess the company’s ongoing activities more clearly.
- The accounting treatment for discontinued operations ensures that the financial statement users get accurate information about the parts of the business that are ongoing versus those that have been cut off. This is crucial for assessing the company’s future financial health and profitability.
Importance
The finance term: Discontinued Operations is important as it pertains to parts of a company’s operations that have been sold, disposed of, or deemed as no longer aligning with the company’s core business strategy.
Recognizing discontinued operations separately in financial reports allows investors, creditors, and other interested parties to distinguish between the company’s ongoing operations and those that will no longer contribute to future earnings.
This allows for a clearer analysis in the context of predictive value, profitability, and the overall financial health of the entity.
It, therefore, plays a critical role in aiding potential decision-making processes related to investment or credit.
Explanation
The term “Discontinued Operations” has a particular significance in the landscape of corporate finance, serving as a clear marker of the shifts a company might be going through. Its primary purpose is to separate the financial impact of a component of the company that has been sold off or is in the process of being liquidated or disposed of, from the regular, ongoing operations of the company.
Discontinued operations are typically entities, businesses, or segments that no longer align with the company’s strategic objectives or have become unviable due to various factors like financial stress, market changes, or organizational restructuring. The importance of distinguishing discontinued operations in financial reporting lies in the visibility it gives to investors, stakeholders, and executives in understanding a company’s financial health and profitability from continuing operations.
By segregating the income or losses from discontinued operations, it provides clear insights into areas of the business that contribute to sustainable income versus those that were isolated incidents or will not contribute to future earnings. These insights could influence decisions relating to company valuation, investment, or strategic planning.
For example, a company might appear unprofitable overall, but when losses from discontinued operations are excluded, the continuing operations might be healthy and profitable, and vice versa. Hence, making the “discontinued operations” distinction essential in financial analysis.
Examples of Discontinued Operations
General Motors and the Hummer Brand: In 2010, General Motors decided to discontinue the Hummer brand due to its low sales and high gas consumption. They had to report this decision as a discontinued operation in their financial statements, outlining the losses and expenses incurred in stopping the production.
Pfizer and Consumer Healthcare Division: In 2018, Pfizer announced that it would divest its consumer healthcare division which included popular brands like Advil, Chapstick, and Centrum. The company had to report the income and expenses of that division as a discontinued operation in their financial statement, until the sale process was completed in
Macy’s Store Closures: Macy’s, like many retail companies, has closed a significant number of their physical stores due to increasing online shopping trends and to save costs. In their financial statements, they reported these closures as discontinued operations, showing how much money they made or lost from ceasing these operations.
Frequently Asked Questions About Discontinued Operations
Q1: What does discontinued operations mean in finance?
A discontinued operation in finance refers to a component of an entity that either has been disposed of or is classified as held for sale. It can also refer to a business operation that has been shut down or divested. This segment is separated from continuing operations on an income statement.
Q2: How are discontinued operations reported in financial statements?
Discontinued operations are reported in a separate section of the income statement, below income from continued operations. This separation provides a clearer picture of the company’s ongoing profitability and future cash flows.
Q3: What qualifies as a discontinued operation?
A discontinued operation is a major part or component of a company that has either been disposed of, is in the process of being disposed of, or is classified as held-for-sale. It must be clearly distinguishable operationally and for financial reporting purposes.
Q4: How do discontinued operations affect net income?
The results of discontinued operations are displayed separately on a company’s income statement, so the company can show what income or losses are coming from its ongoing operations. These are, therefore, excluded from normal operations and do not affect a company’s operating income, but they do contribute to the company’s net income.
Q5: Can depreciation be claimed on discontinued operations?
No, depreciation cannot be claimed on discontinued operations. Once an operation is designated as ‘discontinued’, all depreciation needs to be stopped. Depreciation is only meant for assets in active use or those contributing to the ongoing operations of a company.
Related Entrepreneurship Terms
- Restructuring Charges
- Asset Impairment
- Net Loss/Gain from Disposal
- Divestiture
- Operating Segment
Sources for More Information
- Investopedia: A leading financial education website that offers detailed explanations of various financial terms, including Discontinued Operations.
- AccountingTools: A website offering comprehensive resources on accounting, including the explanation of the term Discontinued Operations.
- GAAP: It is a financial reporting council website that provides substantial knowledge on Generally Accepted Accounting Principles (GAAP), including the concept of Discontinued Operations.
- IFRS: The official website of the International Financial Reporting Standards, offering detailed information about various terms, including Discontinued Operations.
