Continuing Operations

What are 'Continuing Operations'

Continuing operations is the net income category in the income statements that accounts for a company’s daily business activities, referring to the tasks required to make a product or service and deliver it to a customer. To succeed over the long term, a business must consistently generate earnings from operations, and a multi-step income statement reports income from continuing operations separately from non-operating income.

BREAKING DOWN 'Continuing Operations'

Because analysts are interested in income from continuing operations, many experts in the financial markets separate earnings due to mergers, acquisitions, business divestitures and discontinued operations from continuing operations.

How a Multi-Step Income Statement Works

A multi-step income statement provides more detail on a company's income sources and expenses, which gives the financial statements reader more detail to make informed business decisions. Assume, for example, that XYZ Clothing manufactures casual clothing, and it also sells an expensive piece of machinery during the year.

The multi-step format starts with sales minus the cost of sales to calculate gross profit, and XYZ's cost of sales includes both material and labor costs to manufacture clothing. Operating expenses such as wages, supplies and lease expenses are subtracted from gross profit to arrive at operating income. Other revenue and expenses are posted after operating income, along with income taxes, and the remaining balance is company net income. The gain or loss on a machinery sale is posted to other revenue and expenses, which is an unusual item that is not directly related to daily business operations.

Factoring in Financial Ratios

A successful business should use continuing operations as the primary income source. Profit margin, for example, is defined as net income divided by sales, and XYZ should be driving the majority of both net income and sales from continuing operations. XYZ can grow sales by adding new customers and creating new clothing product lines, and the firm can cut costs and increase prices to generate more income for every dollar of sales. Income earned from the equipment sale is included in profit margin, but selling assets is not a sustainable profit generator.

Well-managed companies also maximize the sales generated from using assets, and the asset turnover ratio is defined as 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. If XYZ recognizes a gain on a sale of investment securities, for example, the transaction generates more income, but it does not improve the asset turnover ratio.