What it means
When a company sells or closes a major part of itself, its historical results become a poor guide to its future. A group that has just sold a division contributing a third of its revenue will report next year's revenue a third lower, and a reader who did not know about the disposal would conclude the business had collapsed.
Separating continuing from discontinued operations solves the problem: the continuing figures show the ongoing business on a like-for-like basis, this year and last, and the discontinued line collects everything about the part that has gone. The classification test is strict, because companies would otherwise be tempted to label every underperforming unit as discontinued.
Under IFRS 5, a discontinued operation is a component of the entity (with operations and cash flows clearly distinguishable) that has been disposed of or is classified as held for sale, and that either represents a separate major line of business or geographical area of operations, is part of a single coordinated plan to dispose of such a line or area, or is a subsidiary acquired exclusively with a view to resale. Held for sale requires that the component is available for immediate sale in its present condition, that the sale is highly probable (management committed, active marketing, expected within a year), and that it is being marketed at a reasonable price.
US GAAP's test is similar, requiring a strategic shift with a major effect on operations and financial results. Closing a product line, exiting a small market, or selling a factory does not usually qualify; the component must be major.
Restructuring a division that continues does not qualify. A division that management intends to sell but has not yet committed to and marketed remains in continuing operations.
The strictness means that discontinued operations are relatively rare and significant when they appear. Presentation: continuing operations occupy the body of the income statement with all their line items; discontinued operations appear as a single post-tax figure (with the components disclosed in a note: revenue, expenses, pre-tax profit, tax, and the gain or loss on disposal or on remeasurement to fair value less costs to sell).
Comparatives are restated so that the prior year's continuing and discontinued figures are on the same basis. The cash flow statement discloses the operating, investing and financing cash flows of discontinued operations.
The balance sheet shows assets and liabilities held for sale separately, not depreciated, at the lower of carrying amount and fair value less costs to sell. For analysts, continuing operations are the basis of forecasting and valuation: the run rate of the business going forward.
Earnings per share from continuing operations is the figure compared with consensus and used in multiples. Discontinued results and disposal gains are excluded from underlying earnings.
Readers also watch for the reverse: a company whose continuing operations look better because the losses have been classified as discontinued, particularly where the discontinued component is still being run and its classification is arguable.
In practice
Real-world examples.
Example
A conglomerate reports EPS from continuing operations of $2.10 and total EPS of $3.40 after a $1.30 gain on selling its chemicals arm, and analysts forecast from the $2.10.
Example
A retailer closing 30 of its 300 stores keeps them in continuing operations, since store closures within a continuing format are not a discontinued operation.
Example
A bank exiting an entire country classifies its operations there as discontinued and restates three years of comparatives.
Think of it
“Continuing operations are the parts of the business that will keep going-your ongoing activities.
Formula
Calculation
Profit from Continuing Operations = Revenue minus Costs minus Tax, for the components that will continue
Profit (loss) from Discontinued Operations = Post-tax result of the discontinued component for the period + Post-tax gain or loss on disposal (or on remeasurement to fair value less costs to sell)
Profit for the Year = Continuing + Discontinued
EPS (continuing) = Profit from continuing operations attributable to ordinary shareholders / Weighted average shares
EPS (total) = Profit for the year attributable to ordinary shareholders / Weighted average shares
Worked example. A group with two divisions, industrial products and consumer goods, decides in March to sell the consumer goods division, which represents a separate major line of business. The sale is agreed in October and completes in December. Figures for the year (thousands):
Industrial products (continuing): revenue $180,000; operating costs $153,000; operating profit $27,000; finance costs $4,000 (group debt, allocated to continuing since the disposal proceeds repaid the portion attributable to consumer goods); profit before tax $23,000; tax $5,750; profit after tax $17,250.
Consumer goods (discontinued): revenue to December $95,000; operating costs $89,000; operating profit $6,000; tax $1,500; profit after tax from operations $4,500. Sale proceeds $70,000; carrying amount of net assets disposed $58,000; costs of disposal $3,000; gain on disposal $9,000; tax on the gain $1,000; post-tax gain $8,000. Total discontinued: $4,500 + $8,000 = $12,500.
Income statement presentation:
- Continuing operations: revenue $180,000; operating profit $27,000; profit before tax $23,000; tax $5,750; profit from continuing operations $17,250
- Discontinued operations: profit from discontinued operations $12,500 (one line, with the detail in a note)
- Profit for the year: $29,750
Shares in issue 50,000 (thousands): EPS from continuing operations $0.345; EPS total $0.595.
Comparatives restated: the prior year, originally reported as revenue $270,000 and profit $24,000, is restated as continuing revenue $172,000, profit from continuing operations $15,800, and discontinued profit $8,200. The reader now sees continuing revenue growing from $172,000 to $180,000 (4.7%) and continuing profit from $15,800 to $17,250 (9.2%), rather than a group whose revenue fell from $270,000 to $180,000 and whose profit "rose" to $29,750 on a disposal gain.
Valuation: an analyst values the group on continuing EPS of $0.345 at a sector multiple of 14: $4.83 a share, plus the net cash from the disposal ($70,000 less debt repaid and tax, say $40,000, or $0.80 a share): about $5.60. The total EPS of $0.595 is irrelevant to the forward valuation; the disposal gain will not recur.
Balance sheet between March and December: the consumer goods division's assets ($75,000) and liabilities ($17,000) are presented as held for sale, not depreciated (saving about $2,000 of depreciation, which is one reason the classification date matters), and measured at the lower of carrying amount and fair value less costs to sell ($67,000), which is higher, so no write-down.Case study
Seen in the real world.
A listed engineering group reported "profit from continuing operations up 25%" in a year when total profit fell 40%. The difference was a division classified as discontinued in the final month of the year, whose $30,000,000 loss, including a $22,000,000 write-down on reclassification to held for sale, sat in the single discontinued line. Analysts examined the classification.
The division had been marketed for six weeks, no buyer had been identified, and management's own presentation described it as "under strategic review with a range of options". The audit committee, pressed by the auditors, concluded that the sale was not highly probable at the year end: management had not committed to a plan, the division was not being actively marketed at a reasonable price, and the criteria for held for sale were not met. The division was reclassified into continuing operations, the write-down was reassessed as an impairment (and reduced to $14,000,000 on a value-in-use basis), and "profit from continuing operations" became a 10% decline.
The group sold the division eighteen months later, at which point it was properly discontinued. The episode was cited in regulatory guidance on the held-for-sale criteria, and the group's chief executive acknowledged in the following annual report that the classification had been premature.
Watch out
Common mistakes.
- Classifying a component as discontinued before the held-for-sale criteria are met, which moves losses out of continuing operations prematurely.
- Treating store closures, product exits or restructurings within a continuing business as discontinued operations. Only a separate major line of business or geographical area qualifies.
- Comparing continuing operations with prior-year figures that have not been restated, which produces false trends.
Questions
People also ask.
What qualifies as a discontinued operation?
A component with distinguishable operations and cash flows that has been disposed of or meets the held-for-sale criteria, and that represents a separate major line of business or geographical area. Small disposals do not qualify.
Why are comparatives restated?
So that continuing operations are presented on the same basis in both years, allowing a like-for-like trend. The prior year's figures for the discontinued component move to the discontinued line.
Which EPS figure should be used for valuation?
EPS from continuing operations, since it represents the business that will exist going forward. Total EPS includes results and gains that will not recur.
From the founder's library
Take it further with the book.
Build your financial confidence beyond this definition. Shihan's full-length guide, Accounting Fundamentals, takes the same plain-English approach and turns it into a complete, practical playbook for non-finance managers, business owners and students - with chapter-end quiz answers and presentation slides included.
25% off with code MMHQ25, applied at checkout. Priced in USD - checkout may show the equivalent in your local currency.
View the book and save 25%