Hi, I have seen two ways to calculate operating income from Income Statement. For example, firm A only has expenses items: COGS, SG&A Expenses, R&D Expenses and Depreciation Expenese in Income Statement. Method #1: Sales - COGS - SG&A Expenses - R&D Expenses = Operating Income Method #2: Sales - COGS - SG&A Expenses - R&D Expenses - Depreciation = Operating Income (Also is known as EBIT) Do you know which method is appropriate according to CFAI material? Thanks.
Method #2 since operating profit = EBIT. Depreciation is accounted for before operating profit because fixed assets are part of your core operations.
Think it depends. If you are conducting credit analysis the correct method is Method #1. See Reading 53, p.198
Method 1 gives you core operating income. Method 2 gives you operating income.
perimel - you are correct. Non-cash charges are not taken into account for the purposes of credit analysis - use EBITDA (method #1) in this case. For all others, method #2 will suffice.
This is one of the many “discrepancies” found in Level 2 and the only way to spot them is by practice or by luck!
Thanks for explanation. You guys really know more than I do!
permel - care to share which other ‘not so subtle’ discrepancies you’ve run into? I’ve seen your post on Hedge fund beta which I am still trying to figure out …
Trekker - I will keep the forum posted for everything that comes to my attention. Hope everyone does!