Why would you subtract out current service costs to get to adjusted operating profit (for analytical purposes) after adding in the Period pension cost ???
Also, why would you subtract out take income before tax and add the dif between actual return on assets - expect return on assets to get to adjusted income before taxes…wouldnt you have to take income before tax - actual return on assets?
Hi AlexMo,
(1) Why would you subtract out current service costs to get to adjusted operating profit (for analytical purposes) after adding in the Period pension cost ???
The CFAI text does a pretty good job expressing the mechanics: “To better better reflect a compay’s operating performance, an adjustment can be made to operating income by adding back the full amount of pension costs reported (pension expense) and then subtracting only the service costs (or the total service costs and settlements and curtailments).”
In short, then, you are adding back “everything”, and then only subtracting the operating expenses. In this case, the only pension related expense that is an operating expense is current service costs. This gives the analyst a better picture of (adjusted) operating income.
(2) why would you subtract out take income before tax and add the dif between actual return on assets - expect return on assets to get to adjusted income before taxes……wouldnt you have to take income before tax - actual return on assets?
When the analyst is performing the adjustment to the P&L to use the actual return on plan assets rather than the expected return on plan assets, the expected return on plan assets will already captured with the pension expense.
Therefore, to get the proper figures you need to remove the expected return on plan assets and add in the actual return on plan assets (hence, actual return on plan assets - expected return on plan assets).
Again, the pension expenses are generally reported as operating expenses and you may not get a separate line item for them on the face of the income statement.
In the CFAI text, Example 5 (SAB Miller, Income Statement and Note 31) from the text gives a good example of an income statement with the assumption that pension expenses are embedded). It also has a clear example of the mechanics.
Hope that helps!
Out of all the sections i have covered Pensions has been the hardest to grasp. Anybody else experiencing this or just me? I know I need to re-read and work some questions to get this section down before the test date…
The official curriculum explicitly makes a health warning at the beginning of this reading. Did you not see it?
Just kidding. Yea this is the heaviest topic IMO. Luckily the LOS requires to read extracts from FS and apply simple formulae (additions/subtractions). They do not require to actually do the accounting and calculate PBO etc using assumptions.