Income From Continuing Operations Defined and Explained

What Is Income From Continuing Operations?

Income from continuing operations is a net income category found on the income statement that accounts for a company’s regular business activities. Income from continuing operations is also known as operating income. A multistep income statement reports income from continuing operations separately from non-operating income. A business must consistently generate earnings from operations to succeed in the long term.

Investors are interested in income from continuing operations since it focuses on a company's core operations. As a result, financial analysts will often separate earnings due to mergers, acquisitions, business divestitures, and discontinued operations from continuing operations on the income statement.

Understanding Income From Continuing Operations

Continuing operations are the primary source of income for most successful businesses. If a company makes most of its money from non-core activities, some analysts may raise red flags. For instance, a car company may be headed for trouble if it is making far more money from its financing and credit operations than from selling automobiles.

Income from continuing operations is just one part of a multistep income statement. A multistep income statement provides details on a company's income sources and expenses. That gives the reader of the financial statement more information to make informed business decisions.

The multistep format starts with sales minus the cost of sales to calculate gross profit, and a firm's cost of sales includes both material and labor costs. Wages, supplies, lease expenses, and other operating expenses are subtracted from gross profit to arrive at income from continuing operations. Additional revenue and expenses come after income from continuing operations, along with income taxes. The remaining balance is the company's net income.

Example of Income From Continuing Operations

Assume, for example, that hypothetical company XYZ manufactures casual clothing and that it also sells an expensive piece of machinery during the year. The gain or loss on a machinery sale is part of other revenue and expenses. The machinery sale is an unusual item that is not directly related to daily business operations. Income earned from the equipment sale is part of the profit margin, but selling assets is not a sustainable way to generate profits.

Profit margin is a financial ratio defined as net income divided by sales. The hypothetical clothing company XYZ will usually derive the majority of both net income and sales from continuing operations.

There are several ways that XYZ can increase income from continuing operations. The firm can grow sales by adding new customers and creating new clothing product lines. XYZ can also cut costs and raise prices to generate more income for every dollar of sales.

Well-managed companies also maximize the sales generated from using assets, and the asset turnover ratio equals total sales divided by average total assets. When XYZ purchases machinery and equipment to make clothing, the firm wants to maximize the sales generated from using the assets to make and sell clothing. The analysis is different when XYZ recognizes a gain on the sale of investment securities. This transaction generates additional income, but it does not improve the asset turnover ratio.