Chapter Eight Segment and Interim Reporting McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

Rationale for Segment Reporting Segment reporting provides information to help users of financial statements to:  Better understand the entity’s performance.  Better assess the entity’s prospects for future cash flow.  Make more informed judgments about the enterprise as a whole. LO 1 8-2

Determining Segments An operating segment is a component of an enterprise:  That engages in business activities from which it earns revenues and incurs expenses  Whose operating results are regularly reviewed by the chief operating decision maker to assess performance and make resource allocation decisions  For which discrete financial information is available 8-3

Determining Segments Operating segments should be combined based on the:  nature of the products or services provided by each operating segment.  nature of the production process.  type or class of customer.  distribution methods.  nature of the regulatory environment. 8-4

Quantitative Thresholds A Segment is considered reportable if it satisfies one of these tests:  Revenue test - Its revenues are 10% or more of the combined revenue of all segments.  Profit or Loss test - Its profit or loss is 10% or more of the combined profit (or combined loss if larger) of all segments reporting a profit.  Asset test - Its assets are 10% or more of the combined assets of all operating segments. LO 2 8-5

Operating Segment Tests - Other Guidelines The combined sales revenues of the disclosed segments must be at least 75% of total company sales, excluding intra-entity sales. Segments must be added until the 75% test is met (even if the additional segments do not meet the reportable segment criteria). Although a maximum number is not prescribed, authoritative literature suggests that 10 separately reported segments might be the practical limit. 8-6

Required Segment Disclosures For each reportable segment, a company is required to disclose: General information Segment profit or loss Revenues Interest revenue and expense Depreciation, depletion and amortization expense Significant noncash and unusual items Income Tax expense Investment in equity method affiliates Total assets Capital expenditures LO 3 8-7

Geographic Areas Revenues from external customers and long- lived assets must be disclosed for:  The domestic country.  All foreign countries where the enterprise derives revenue or holds assets.  Each foreign country in which a material amount of revenue is derived or assets are held. 8-8 LO 4 8-8

Major Customers When 10% or more of a company’s revenue is derived from a single customer, the company must disclose that it has a major customer. The IDENTITY of the major customer need not be disclosed. 8-9 LO 5 8-9

IFRS and Segment Reporting IFRS and GAAP are substantially the same, except…  IFRS requires disclosure of total assets AND liabilities if that information is provided to the chief decision maker.  IFRS specifically includes intangible assets as long-lived assets.  In a company with a matrix form of organization, IFRS permits operating segments to be based on geographic area, as opposed to products/services. LO

Interim Reporting To provide more timely information, the SEC requires quarterly statements from publicly-traded companies in the U.S. But how do the statements fairly reflect expenses that do not occur evenly throughout the year? LO

Interim Reporting There are two possible approaches:  Discrete – the accounting period stands on its own.  Integral – treat the accounting period as a portion of a longer period. Current GAAP requires companies to use the Integral Approach. 8-12

Interim Reporting – Minimum Disclosures EPS Seasonal Revenues & Expenses Provision for Income Taxes (and significant changes in estimates) Sales or Gross Revenues Unusual or Extraordinary Items Other significant changes Net Income Disposal of a Business Segment Contingent items LO

IFRS -- Interim Reporting IAS 34 requires the following minimum components in an interim report: A condensed statement of financial position (balance sheet). A condensed statement of comprehensive income, presented as: a. A condensed single statement of net income and comprehensive income, or b. Separate condensed statements of net income and comprehensive income. A condensed statement of changes in equity. A condensed statement of cash flows. Selected explanatory notes. LO

IFRS -- Interim Reporting IAS 34 requires each interim period to be treated as a discrete period in determining the amounts to be recognized. Expenses that are incurred in one quarter are recognized in full in that quarter, even though the expenditure benefits the entire year. No accrual of expenses in earlier quarters for expenses expected to be incurred in a later quarter of the year. The only exception to this rule is the accrual of income tax expense at the end of each interim period. 8-15

Summary Segment reporting provides more detailed information about the components of a business combination for decision makers. Three quantitative tests used to identify reportable segments: revenue, profit or loss, and asset. Companies must report specific information for each reportable operating segment, and parameters determine the number of segments it reports. With interim reporting, GAAP requires an integral approach, but the IASB’s requires that each interim period be treated as a discrete period in determining amounts to be recognized. 8-16