In this article, we are going to ask one simple question. What are other comprehensive income? What does this term mean in business accounting?
We have already discussed comprehensive income. You will find it in this previous article about financial reporting. However, this time, we will focus on other comprehensive income. You see, they are as different as day and night.
OCI is short for other comprehensive income. CI is short for comprehensive income. For the sake of readability, we will use these abbreviations a lot in this article.
So, there is quite a big difference between CI and OCI. They both are financial measurements. Both provide investors and analysts with insights into the financial statements. However, that’s where all the similarities end. Let’s take a closer look.
What Are Other Comprehensive Income (OCI) Differences from Comprehensive Income (CI)
The first difference stands in the level of detail they provide. They both equip analysts with a vision of a company’s financial situation. However, OCI is more thorough.
Comprehensive income can be defined as a blanket term. It is very general. It combines two broad elements:
- The net income is reported on the income statement.
- The net income is reported on the OCI statement.
So, comprehensive income (CI) is the sum of net income and other comprehensive income (OCI). Therefore, it is an umbrella statement.
The second major difference stands in how you list them. You cannot list OCI with net income. It has its own section. This section is separate from the regular income statements. However, most financial specialists place the OCI statement just below the income statement. But we’ll discuss more that later.
Furthermore, comprehensive income can be disclosed in various formats. That includes unrealized gain and loss from the OCI statement. CI is less detailed than OCI. However, it is a more elaborate perspective of a company’s net income.
A company’s assets can lose or add to its value in time. It is a consequence of economic dynamics. These fluctuations in asset value are part of a company’s cash flow statement. We won’t go into more detail here. We have already covered everything about the cash flow statement in the previous article. However, there is one tiny mention here.
The variations in asset value are reported on the cash flow statement. Nevertheless, the estimated impact on the company’s earnings is reported in the OCI statement. So, other comprehensive income lends us a view into a company’s real value. Moreover, it takes into account all the unrealized gains and losses.
Comprehensive income can be disclosed in various formats. We’ve said this before. So, what are these formats? Which ones are acceptable in what circumstances?
1. CI at the bottom of the income statement
You can disclose CI at the bottom of the income statement. Add OCI just after the net income. In this way, you will have a total CI for the year.
2. CI in a separate statement
You can disclose comprehensive income in a separate statement. You start from the net income. Then you add OCI. The result is the umbrella comprehensive income statement.
3. CI as part of the stockholders’ equity
You adjust the net income for OCI. So, you’ll arrive at the yearly comprehensive income
4. In the stockholders’ equity after retained earnings
Retained earnings represent a portion of a company’s profit. So, at the end of every reporting period, retained earnings are withheld from the net income. Why? They are transferred into the shareholders’ equity. Moreover, you can use retained earnings as a way of measuring a company’s book value. So, retained earnings are key to the shareholders’ equity.
Retained earnings are calculated on the balance sheet. You subtract the dividends. They are deducted from the net income. Dividends are money out of the company. So, they reduce the company’s equity.
You can disclose comprehensive income after retained earnings.
Other Comprehensive Income: A Definition
OCI represents all the items that you can’t report as a loss or gain. They do not arise from the company’s typical business activities. Therefore, you cannot feature them in the usual statements. Besides, these items are difficult to calculate. In fact, you estimate them.
So, OCI takes a detour from the usual net income statement. A net income statement is very factual. It consists of all the revenues and expenses that are complete. You know they happened.
However, there are countless other factors that can influence a company’s value. It’s the other comprehensive income.
OCI consists of non-owner sources of income and expenses. Most of these incomes and expenses are just estimates. They have not come to pass. For example, it can take months or years until an investment bears fruit. However, in the meantime, you need to report that investment somehow. So, you add it as part of the OCI.
OCI will turn into net income once the investment pays off. OCI can also become a loss if the investment proves to be disastrous.
So OCI captures all these possible changes in a company’s value. Capital gain and capital loss are complex financial instruments.
What is Capital Gain?
Capital gain is a rise in a company’s assets value that can be potential or realized. The potential value of an asset is an estimate that fluctuates with the market. The realized value is the price for which the asset is finally sold.
Capital gains can be short-term or long-term. Long-term is more than a year. You need to pay taxes for realized capital gains, of course. However, for unrealized gains and losses, you don’t pay taxes. These gains and losses are also called “paper gains” and “paper losses”. They speculate on an investment’s value but are not tangible. So, yes, you don’t pay taxes just for paper gains.
A capital loss happens when you sell an asset for a smaller value than its purchase price.
Other Comprehensive Income: Special Considerations
OCI captures even more fluctuations in value from derivative instruments. In finance, derivatives can make a big difference. They are financial contracts, and their value is originated from underlying assets. So, a derivative is tradeable between two or more companies. The price fluctuates with the underlying asset and the market. Derivatives can be used as leverage. Their true value stands in their potential. So, derivative instruments are one type of OCI.
Debt securities can be another type of OCI. So, debt securities are financial assets. Owners of debt securities will receive a stream of interest payments. Furthermore, the borrower needs to repay the principal borrowed. This is unlike equity securities. The creditworthiness of the borrower dictates the interest rate. So, the main types of debt securities are:
- government bonds
- corporate bonds
- collateralized bonds
- zero-coupon bonds
- municipal bonds
So all of these be part of the other comprehensive income.
OCI also captures pensions and retirement plans. Everything is clear here. No need for further clarifications.
Another type of OCI is the foreign currency transaction. Of course, you could also include the available-for-sale securities here.
You can report OCI after taxes. It is easy this way. You can also report it before taxes. However, a single income tax expense line should be included at the end of the statement.
We have one last special consideration here. Can other comprehensive income be distributed as dividends? The simple answer is no. Comprehensive income is an unrealized gain and loss. Its value can change greatly after acquisition. So, you cannot use its potential value to pay dividends to your shareholders.
Is Comprehensive Income on the Balance Sheet?
This is another important question to ask. Is Comprehensive Income on the balance sheet? Other comprehensive income is accumulated. So, you cannot report it on the income statement by normal accounting standards. Consequently, you can report it on the balance sheet. Make sure it stands under the shareholders’ equity.
Furthermore, when the OCI item is sold, the realized gain or loss will be transferred from the balance sheet to the income statement.
What are Other Comprehensive Income Accumulated
We will refer to accumulated other comprehensive income as AOCI. AOCI includes pretty much the same instruments presented above. So, we’re talking mostly about unrealized gains and losses. They are netted below the retained earnings in the balance sheet. The main goal of AOCI is to notify future investors about the company’s real and potential value.
So, here comes the question. Can accumulated other comprehensive income be negative? Well, at the end of the year, the OCI can be a negative amount. It can be a loss. Consequently, the AOCI is the beginning balance minus OCI.
What Exactly is AOCI?
Accumulated other comprehensive income is pretty much the same with OCI. The only difference is that it incorporates the whole balance. So, for example, companies have several obligations for pension plans. AOCI includes them all, from benefit plans to pensions. If the assets invested in these plans do not prove enough, the company needs to pay for them.
The pension plans are a great liability of the AOCI. You can never truly estimate the retirement plan’s expenses. AOCI also includes the investment’s liability or potential. In addition to all of these, you should also consider hedging transactions.
Hedging transactions is an investment tactic. Its sole purpose is to reduce the risk of losing money. Hedging transactions include derivatives, futures of forwarding contracts. Hedging is quite a sophisticated financial instrument that few can master. First of all, a perfect hedge is only mathematically possible. Secondly, risks can also bring investing rewards. So, eliminating all the risks of an investment will leave you with little gains in the end.
OCI, AOCI are types of comprehensive income. Their main goal is to showcase a company’s true worth at a given time. These financial instruments help analysts and accountants value businesses. In this ever-moving economic and financial world, you need comprehensive income.
You also need tools to help you report and measure your business activities.