OCI stands for “other comprehensive income”.  Students are expected to be as comfortable with this terminology as they are with “asset”, “liability”, “revenue” or “profit” and yet often they are not.  This isn’t necessarily the student’s fault.  It’s often introduced in a minor way in low level papers and so not much attention is paid to it.  It then becomes assumed knowledge at the next level and so isn’t properly explained.  Understanding it falls through the gap. Let’s go back a step and consider profit.

Profit is calculated in the statement of profit or loss and is the difference between certain types of income (such as revenue) and expenses (such as cost of sales, administrative expenses, finance costs and tax).  The final profit figure is referred to as “profit for the year”.  Once it has been reported in the SPL, the profit for the year is taken to retained earnings in the SFP.  Retained earnings is a reserve and represents the accumulation of profit over the years.  The balance on retained earnings sits in the SFP under the heading of equity as it is an amount belonging to the owners of the entity i.e. the shareholders.

The statement of comprehensive income is exactly what it name suggests – a statement showing all of the income of the entity.  Profit is just some of this income.  Profit plus “other” is then the total i.e. the comprehensive income.  The correct terminology for this “other” income is “other comprehensive income (OCI)”.  So a statement of comprehensive income is simply a statement of profit or loss and other comprehensive income.

But what type of income is there other than profit?  Revaluation gains are the first example of OCI that students encounter.  Gains or losses on certain financial assets are also recognised in OCI.  (This type of financial asset is rather imaginatively called fair value through OCI!).  More complicated examples are the remeasurement component on defined benefit pension plans, gains/losses on derivatives designated as hedging instruments in cash flow hedge arrangements and foreign exchange gains/losses on a foreign subsidiary.

OCI is just another type of income less expense.  In the same way as profit, OCI is taken to a reserve in the SFP and sits under the heading of equity as an amount belonging to the shareholders.  Each item of OCI is taken to its own reserve.  Revaluation gains are recognised in a revaluation reserve.  Gains on FVTOCI financial assets are recognised in a FVTOCI reserve.  However, to have all these different reserves on the face of an SFP can be rather cumbersome.  So in reality (and in exams) there is normally just one line called “other components of equity”.

When is an item of income or expense included in profit and when is it included in OCI?  The short answer to this question is that depends on what the relevant accounting standard tells us to do.  Accounting standards will dictate whether items are recognised in profit or in OCI.  There is of course a longer answer to this question, but that would be a whole new post!

Use the following illustration of the first three years of a company to help you understand the flow of the numbers.

Illustration

 Statement of comprehensive income

Statement of financial position

Statement of changes in equity for year 1

Statement of changes in equity for year 2

Statement of changes in equity for year 3

Consider profit first – year 1’s profit of 1,000 is taken to retained earnings and so the closing balance at the end of year 1 is 1,000.  Year 2’s profit of 1,500 is taken to retained earnings and so now the closing balance has increased to 2,500.  Year 3’s profit of 2,000 increases the balance on retained earnings to 4,500.

I am assuming that no dividends are paid and so there is no reduction in retained earnings at all during the three years.

Notice how the closing balances are reported in the SFP at each reporting date but that the SOCIE shows the movement in the reserve during each year.

Now consider the OCI items.  Although there will be a separate revaluation reserve and a separate FVTOCI reserve, this gets too cumbersome to be presented on the face of the SFP and SOCIE.  So in practice the reserves are just collated together and called “other components of equity”.

Year 1’s OCI of 250 is taken to other components and so the closing balance at the end of year 1 is 250.  Year 2’s OCI of 370 is taken to other components and so now the closing balance has increased to 620.  Year 3’s OCI of 480 increases the balance on other components to 1,100.

Again, notice how the closing balances are reported in the SFP at each reporting date but that the SOCIE shows the movement in the reserve during each year.

Tagged: AAT Level 4 Fin St, ACCA F3, ACCA F7, ACCA P2, CIMA F1, CIMA F2