Neelu Singh

Introduction :

What are exceptional and extra ordinary items? The question is not new and therefore, it is not for the first time that accountants/auditors have to answer the same.

However, the question assumes significance from Schedule VI of Companies Act, 1956; Schedule III of Companies Act, 2013, and clause 41 [1] of listing agreement where it requires company to submit to the stock exchange the reason or explanation for variation in exceptional and extraordinary item if it is excess of 10% or Rs. 10 Lakhs, whichever is higher and all items of income and expenditure arising out of transactions of exceptional nature shall be disclosed and all the extraordinary items, if any, shall be disclosed in accordance with Accounting Standard 5 [2].

Background of Extraordinary Items:

One of the early accounting statements that would show the purpose/ genesis of introducing extraordinary items is here:

Discussion of extraordinary items (EI) is not new. The first document mentioning the term, “Uniform Accounting,” was issued in 1917 by the Federal Reserve Bank, but prepared by an AICPA committee[3]. This pamphlet was reissued the following year as “Approved Methods for the Preparation of Balance Sheet Accounts.” These statements recommended an income statement that showed extraordinary gains and losses on its face after determination of net income for the period. In the 1920s, however, extraordinary items were typically accounted for directly in the retained earnings (or surplus) account. Often there was little, if any, disclosure of what constituted an extraordinary item, and accountants tended to view these in a “rather liberal” manner (Weldon Powell, “Extraordinary Items,” Journal of Accountancy, January 1966). The income statement simply indicated to users that income or loss for the period had been determined excluding extraordinary items.

When the AICPA published ARB 43, Restatement and Revision of Accounting Research Bulletins Nos. 1–42, in 1953, the following items, when material, were specified as allowed to be excluded from net income if the inclusion would cause users to draw misleading conclusions from an analysis of net income:

  • Nonrecurring amounts specifically related to prior years’ operations, such as eliminating previously established retained earnings reserves or adjusting past income taxes;
  • Amounts resulting from unusual sales of assets not of the type in which the company commonly deals;
  • Losses from disasters not commonly insured against (e.g., wars, riots, and earthquakes), unless such losses are a recurrent business hazard;
  • Losses from completely writing off intangibles, such as goodwill or trademarks; and
  • Amounts from writing off unamortized bond discounts, bond premiums, or bond issue expenses when the related debt is retired or refunded before maturity.

Meaning of exceptional items:

A good definition of “exceptional items” can be: “Exceptional items are defined as those items that in management’s judgment are material items which derive from events or transactions that fall within the ordinary activities of the Group and which individually or, if of a similar type, in aggregate, need to be disclosed by virtue of their size or incidence.”

Para 14 of AS 5 gives certain examples of such exceptional items:

  1. The write down of inventories to NRV
  2. Disposal of items of fixed assets
  3. Disposal of long term investments
  4. Legislative changes having retrospective application (e.g. increase in D.A. with retrospective effect after revision by Sixth Pay Central Commission)
  5. Litigation Settlement.

From the above, the following features of exceptional items can be deduced:

  • Exceptional item arise from ordinary activity;
  • They are not expected to be recurring;
  • the nature and amount of such item is relevant to user of financial statement;
  • they are generally disclosed to balance sheet.

Illustrations of exceptional items:           

  • Profit or loss arises on disposal of fixed asset.
  • Abnormal losses on long term contract.
  • Amount received in settlement of insurance claims
  • Write off of expenditure capitalized on intangible assets other than amortisation.

Meaning of Extra Ordinary items:

AS 5 “Net Profit or Loss for the period, Prior period items and changes in Accounting Policies” at para 4.2[4] defines ‘extraordinary items’ as: ‘Extraordinary items are income or expenses that arise from events or transactions that are clearly distinct from the ordinary activities of the enterprise and, therefore, are not expected to recur frequently or regularly.

From the above, the following features of extraordinary items can be deduced:

  • it arises from a event or transaction that are clearly distinct from ordinary business;
  • this items are not expected to recur frequently or regularly;
  • this item is disclosed in the statement of profit and loss as a part of net profit for the period.
  • They are generally disclosed to notes to financial statement

Illustrations of Extraordinary items:

  • Sale of an investment in subsidiary and associated companies;
  • Significant charge in Government fiscal policy;
  • Discontinuance of business segment.

Why separate disclosures:

One of the important objectives of disclosure of financial performance is to be of predictive value. Exceptional items not being repetitive in nature do not have a predictive value. Extra ordinary items are anyway not a part of the operations of the company, and therefore, cannot, by very nature be expected to recur. Hence, the objective of a separate disclosure is to let the reader take a view on expected future performance of the company.

[1] http://www.bseindia.com/downloads1/claause41.pdf

[2] Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies

[3] http://www.nysscpa.org/cpajournal/2007/207/essentials/p32.htm

[4] http://www.mca.gov.in/XBRL/pdf/Guidance_Note_Rev_ScheduleVI.pdf

[The above post is contributed by Neelu Singh  at Vinod Kothari & Co. He can be contacted at neelu@vinodkothari.com ]

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10 Comments

  1. JaiMataDi says:

    Bcz to invest is not the business.. And loss on investment is not due to ordinary activities of the business.. Its not relating operations so “extra” >> clearly distinct from the ordinary activities

    Exceptional items are the one that relate to operations like for a manufacturing enterprise fixed asset relates to daily operation..

    In case of investment concern loss or profit on investment will be ordinary item but for others its extraordinary..

  2. nandini sharma says:

    Why sale of investment in subsidiary& associates co. In extraordinary instead of exceptional items disposal of long term investment

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