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Operating Leases
R&D

Spreadsheets
Operating Leases
R&D

The two items that most directly contradict this definition of operating income are operating leases and R&D expenses, both of which are categorized as operating expenses. Operating leases are financial expenses and R&D expenses are capital expenses. To correct the operating income, we have to do the following:

• Take the present value of operating lease commitments, using the pre-tax cost of debt of the firm as the discount rate, and treat the present value as debt. The operating income has to be adjusted by adding back the operating lease expense and subtracting out the depreciation created by the operating leases.
• Specify the number of years before R&D can be expected to generate commercial products, collect R&D expenses from the past for that many years and then amortize them; straight line usually works. The remaining unamortized R&D from prior years can be considered the book value of the R&D asset, and operating income has to be adjusted by adding back the R&D expense from the current year and subtracting out the R&D amortization for the current year.