Accumulated other comprehensive income (OCI) includes all unrealized gains and losses reported in the equity section of the balance sheet that are netted below retained earnings.
Other comprehensive income is comprised of gains and losses on certain investments, pension plans, and hedging transactions. These are excluded from net income because the gains and losses have not yet been realized.
Investors reviewing a company’s balance sheet can use the accumulated OCI account as a vital indicator for upcoming potential gains or threats to net income.
Key Highlights:
- Accumulated other comprehensive income (OCI) includes unrealized gains and losses that are reported in the equity section of the balance sheet.
- An unrealized gain or loss occurs when an investment, pension plan, or hedging transaction has appreciated or depreciated in fair value, but a sell transaction has not yet occurred.
- Accumulated other comprehensive income alerts financial statement users to potential realized gains or losses on the income statement in the future.
Other Comprehensive Income vs. Realized Income
A complete investment cycle involves both a buy and a sell transaction to realize a gain or loss. For example, if an investor buys IBM common stock at $20 per share and later sells the shares at $50, the investor realizes a gain of $30 per share. Such realized gains and losses are reported on the income statement.
Conversely, an unrealized gain or loss means that a sell transaction has not yet occurred. Other comprehensive income reports unrealized gains and losses for certain investments based on their fair value as of the balance sheet date. As an example, if stock bought at $20 per share increases to a fair market value of $35 per share, the unrealized gain stands at $15 per share.
Companies categorize their investments as available for sale, held to maturity, or trading securities. Unrealized gains and losses for some of these securities are reported in OCI, signaling potential future realized gains or losses on the income statement.
Types of Accumulated Other Comprehensive Income
Unrealized gains and losses related to a company’s pension plans are frequently presented in accumulated other comprehensive income (OCI). With several funding obligations associated with a pension plan, an employer can set up a defined benefit plan requiring projected payments to retirees. If plan investments underperform resulting in a loss, the company’s pension plan liability increases. These unrealized losses and retirement plan expenses can be reported in OCI and reclassified to net income once they are realized.
OCI also includes unrealized gains or losses linked to investments. For example, a significant unrealized loss from current bond holdings may indicate potential issues if those bonds are near maturity. In addition to investment and pension plan gains and losses, OCI encompasses hedging transactions made to mitigate losses. This category includes currency exchange hedges aimed at minimizing the risk of currency value fluctuations, which multinational companies may use to safeguard against currency volatility. The unrealized gains and losses for those hedging actions are reported in OCI.
Utilizing the insight provided by Accumulated Other Comprehensive Income (OCI), investors and financial analysts can better navigate and predict a company’s financial direction, measuring forthcoming gains and anticipating risks with the comprehensive view offered by this crucial financial component.
Related Terms: Retained Earnings, Balance Sheet, Income Statement, Fair Value, Trading Securities.
