CHAPTER 12 REPORTING SEGMENT AND RELATED INFORMATION

CHAPTER 12

REPORTING SEGMENT

AND RELATED INFORMATION

FOCUS OF CHAPTER 12

• Objectives and Applicability of FAS 131• Reporting Operating Segment

Information• Reporting Enterprise-wide Information

– Products & services– Geographic areas– Major customers

Segment and Related Information Reporting: Objectives

• To provide information about a reporting entity’s different types of:– Business activities.– Economic environments.

Segment and Related Information Reporting: Objectives

• This information should help financial statement users:– Better understand past performance.– Better assess prospects for future net

cash flows.– Make more informed judgments about

the entity as a whole.

Segment and Related Information Reporting: Overview & Applicability

• Segment and related information reporting under FAS 131 consists of disclosing the following 4 informational items:

Operating segments.Products & services.

Foreign operations/sales.Major customers.

#1

#3

#2

#4

#2, #3, & #4 are “entity-wide disclosures.” Theyapply to ALL entities—even those having only l segment.

FAS 131


• Segment and related information reporting is:– Needed because of the limitations of

consolidated financial statements.– Done in notes to the financial statements. – Applicable to:

• Both ANNUAL & INTERIM statements.• PUBLIC BUSINESS ENTERPRISES

ONLY (excludes not-for-profit entities).


• Public business enterprises are entities that:– Have issued debt or equity securities

that are traded in a public market,– Are required to file financial

statements with the SEC, or– Provide financial statements for the

purpose of issuing any class of securities in the public market.


• Segment and related information reporting even applies to the following entities if they issue “separate company ” statements that are NOT in the same FINANCIAL REPORT as a set of consolidated statements:– Parent enterprises.– Subsidiaries.– Joint ventures.– Investees—if the equity method is used.

Segment Reporting:Basis of Segmentation

• Disaggregated financial information could be presented in several ways, for example:– By products & services (rejected).– By geographic area (rejected).– By legal entity (rejected).– By type of customer (rejected).– By organization of the segments for

reporting to management for decision-making (the “management” approach).


• FAS 131 requires :– A SINGLE basis of segmentation.– The MANAGEMENT approach basis of

segmentation.

In contrast, FAS 14 (which was superseded byFAS 131) required TWO bases of segmentation—by industry and by geographic areas.


• Merits of the “Management” Approach:– Facilitates consistent descriptions in

(1) annual reports and (2) various other published information.

– Entities need not develop a separate measure of profitability solely for segment reporting purposes. Thus:• A non-GAAP method used internally

is also used for segment reporting.


• The components that management establishes for reporting & decision-making are called OPERATING SEGMENTS. Such components:– Engage in activities from which they may

earn revenues and incur expenses. • Such activities include revenues and

expenses resulting from transactionswith other segments (calledintersegment transactions).

#1


• Such components (continued):

Have their operating results regularly reviewed by a chief operating decision maker.

#2

#3 Have discrete financial information available.


• What Could Be an Operating Segment:– A start-up operation that has yet to report

any revenues.– A component of a vertically integrated

operation—providing these operations are managed that way.


• What Could Not Be an Operating Segment:– A corporate headquarters.– Functional departments that earn either

no revenues or only incidental revenues.• What Is Definitely Not an Operating

Segment:– An entity’s pension plan.– An entity’s postretirement benefit plan.

Segment Reporting:Disclosures Required

• An entity must disclose 4 types of information about its REPORTABLE OPERATING SEGMENTS:

– General information.– Specified amounts.– Reconciliations of specified amounts

to consolidated amounts. – Certain interim period information.

1

2

3

4

TYPE

Segment Reporting: Disclosures Required—General Information

• TYPE 1—General Information Disclosures: – Factors used to identify the entity’s

reportable segments, including the basisof organization, such as based on:• Products and services.• Geographic areas.• Regulatory environments.• A combination of factors.

– Types of products & services from which each reportable segment derives its revenues.

Segment Reporting: Disclosures Required—Specified Amounts Information

• TYPE 2—Specified Amounts Disclosures:– For each reportable segment, a

measure of:• Profit or loss.• Total assets (but not liabilities).

– Certain account amounts (listed on next slide) if they are included in the measure of segment profit or loss.


– Certain Account Amounts That May Have to Be Disclosed:• Revenues from external customers.• Intersegment revenues.• Interest revenue and interest expense.• Depreciation & amortization expense

and significant other NONCASH items.• Unusual items & extraordinary items.• Equity method income on investees.• Income tax expense or benefit.


• Key Point #1—LACK OF UNIFORMITY: FAS 131 does NOT define segment operating profit or loss (as did FAS 14, its predecessor).– Thus any measure of performance may

be displayed—AS LONG AS THAT MEASURE OF PERFORMANCE IS REVIEWED BY THE CHIEF OPERATING DECISION MAKER.


• Key Point #2—Terminology: In dealing with segment reporting, the term “intercompany” is NOT RELEVANT. The RELEVANT terms are:– Intersegment (sales between segments).– Intrasegment (sales between

components of a vertically integrated operation deemed to be a single operating segment).

Segment Reporting: Disclosures Required—Specified Amounts

Information

• Key Point #3—Terminology: In presenting operating segment information:– Intersegment sales must be disclosed

separately ONLY IF they are included in the measure of profitability.

– Intrasegment sales need NOT be disclosed.


Information

• Key Point #4—Transfer Pricing: – FAS 131 did not establish a basis

for setting prices for sales or transfers either between or within segments.

– Transfer pricing is more likely to bean issue within vertically integrated operations than between nonvertically integrated segments.


Information

• Key Point #5—Allocations: A segment’s expenses (used in its measure of operations) may include BOTH: – Directly traceable costs and – Allocated common costs (costs that

benefit two or more segments).• Costs that are allocated must be allocated

on a reasonable basis.

#1#2


Information

• Key Point #6—Nonallocations:– Common costs need not be allocated

to or between segments.– Costs accounted for on a consolidated

basis need not be allocated to segments (e.g. pension costs).


Information

• Key Point #7—Asymmetrical Allocations: Permitted in determining a segment’s:– Measure of profitability and – Total assets.

• Thus depreciation expense could be allocated to a segment but the related fixed assets could not.


Information

• Key Point #8—R&D Costs: Disclosure of segment research & development costs is NOT required because:– Doing so could result in competitive harm

by providing competitors with early insight into strategic plans.

– R& D costs are often (1) incurred centrally and (2) NOT allocated to segments.


Information

• Key Point #9—Liabilities: Disclosure of segment liabilities is NOT required:– The value of information about

segment liabilities in assessing segment performance was deemed limited, partly because in many cases liabilities are:

– Incurred centrally and NOT allocated to segments.


Information

– Additional Asset-Related Disclosures for Reportable Segments—if the items are included in the determination of segment assets:• The amount of investment in equity

method investees.• Total expenditures for additions to

long-lived assets.


Information

• MEASUREMENT—BASIC RULE: Each segment item amount reported must be the measure reported to the chief operating decision maker for assessing performance & allocating resources to the segment.– Eliminations & Adjustments Made in

Consolidation: Allocate to a segment ONLY IF they are included in the measure of profit and loss used by the chief operating decision maker.


Information

• MEASUREMENT—MULTIPLE MEASURES: If more than one measure of a segment’s profit or loss and assets is used by the chief operating decision maker, the measure selected for segment reporting must be the measure most consistent with:– Those used in measuring those items in

the entity’s consolidated financial statements.


Information

• MEASUREMENT—DISCLOSURES:

For reportable segment’s profit or loss and assets, disclose as a minimum:– The basis of accounting for

intersegment transactions.– The nature of differences reported on

the specified reconciliations (for P/L and for assets), if not apparent thereon.

#1

#2


Information

• MEASUREMENT—DISCLOSURES (cont.):– The nature and effect of any changes from

prior periods in the measurement methods used to determine a reported segment P/L .

– The nature and effect of any asymmetrical allocations to segments.

#3

#4

Segment Reporting: Disclosures Required—Reconciliations

– TYPE 3—Reconciliations of SPECIFIED Amounts to CONSOLIDATED Amounts:• Reconcile the total of the reportable

segments’:– Revenues.– Measure of profit or loss.– Assets. – Other significant items of

information disclosed for reportable segments (e.g. liabilities, R&D expense).

Segment Reporting: Disclosures Required—Interim Period

Information

• TYPE 4—Certain Interim Period Information:– For each reportable segment, disclose:

• Revenues from external customers.• Intersegment revenues.• A measure of profit or loss.• Total assets, if a material change from

amount disclosed in last annual report.• Changes in the segmentation basis or in

basis of measurement of segment P/L.• Reconciliations to consolidated amounts.

Segment Reporting: Disclosures Required—Cash Flow Information

• Reporting segment cash flows is NOT required.– An indication of both an operating

segment’s cash-generating ability and its cash requirements may be gathered from the required profitability and asset related disclosures.

Segment Reporting:Aggregation of Similar Segments

• Operating segments that have similar economic characteristics often have similar long-term financial performance. – Thus two or more operating segments

may be combined into a single operating segment if 3 criteria (on thenext two slides) are met.

Segment Reporting:Aggregation Criteria

• The Three Aggregation Criteria:– Aggregation must be consistent with the

objectives & principles of FAS 131.– The segments must have similar economic

characteristics.– The segments are similar in each of the

following 5 areas:• The nature of the products & services.

#1

#2

#3

Segment Reporting:Aggregation Criteria

– Segments similar in 5 areas (Cont’d):• The nature of the production processes.• The type or class of customer for their

products & services.• The methods used to distribute their

products or provide services.• If applicable, the nature of the regulatory

environment (e.g. banking, insurance, or public utilities).

Segment ReportingQuantitative Thresholds—

Overview

• Not all operating segments are REPORTABLE operating segments.Three 10% tests are performed to determine if an operating segment is a reportable operating segment.

• ONLY ONE of the three 10% tests need be passed. The tests involve:– REVENUES, PROFITABILITY, and

ASSETS.

Segment Reporting: Quantitative Thresholds—The 10%

Tests

– REVENUES: Are the segment’s reported revenues [includes both sales to external customers and intersegment sales or transfers] 10% or more of the combined revenue, internal and external, of ALL reported operating segments?

#1

Segment Reporting: Quantitative Thresholds—The

10% Tests

– PROFITABILITY: Is the absolute amount of the segment’s reported profit or loss 10% or more of the greater, in absolute amount, of the combined reported:• PROFIT of all operating profits

that DID NOT report a loss or• LOSS of all operating segments

that DID report a loss?

#2

Winners

Losers

Segment Reporting:Quantitative Thresholds—The

10%Tests

– ASSETS: Are the segment’s assets 10%or more of the combined assets of ALL operating segments?

• Operating segments that do NOT meet any of the three 10% tests may be COMBINED with– Other such operating segments to produce

a reportable segment—ONLY IF they share a majority of the specified aggregation criteria (listed on slides #38 & #39).

#3

Segment Reporting:Nonreportable Operating

Segments

• Nonreportable operating segments and other business activities are:– Combined and– Disclosed in an “ALL OTHER” category.

• The Judgment Factor: A reportable segment in the preceding period that does NOT qualify as a reportable segment in the current period may be presented if management deems it to be of continuing significance.

Segment Reporting:The 75% Test

• Determining Reportable Operating Segments:– Enough operating segments must be selected

so that at least 75% of the total consolidated revenues (sales to external customers) is included in reportable operating segments.

• Describing Reportable Operating Segments:– The product or service of each industry

segment must be identified.

Enterprise-Wide Disclosures: The Three Categories of Information

• Three types of enterprise-wide disclosures are called for. Information about:– Products and Services.– Geographic Areas.– Major Customers.

#1

#2

#3

Enterprise-Wide Disclosures: Products and Services

• An entity must report REVENUES FROM EXTERNAL CUSTOMERS—unless it is impractical to do so—for:– Each product and service, or– Each group of similar products

and services.• If it is impractical to disclose this product

and service information, disclose that fact.

Enterprise-Wide Disclosures: Geographic Areas—General

• An entity must report geographic information—unless it is impractical to do so—for :– REVENUES– LONG-LIVED ASSETS

• If it is impractical to disclose this geographicinformation, disclose that fact.

#1

#2

Enterprise-Wide Disclosures: Geographic Areas—Revenues

• REVENUES—Disclose:– Revenues from external customers

located:• In the United States.

• Outside the United States, in total.

– Revenues attributed to an individual foreign country, if material.

Enterprise-Wide Disclosures: Geographic Areas—Long-Lived Assets

• LONG-LIVED ASSETS—Disclose:– Long-lived assets located:

• In the United States.

• Outside the United States, in total.

• In an individual foreign country, if material.

Enterprise-Wide Disclosures: Geographic Areas—Long-Lived Assets

• Long-lived assets exclude:– Financial instruments.– Long-term customer relationships

of a financial institution.– Mortgage or other servicing rights.– Deferred policy acquisition costs.– Deferred tax assets.

Enterprise-Wide Disclosures: Major Customers

• When an entity has revenues from any single customer in excess of 10% of total revenues, disclose:– The fact of such revenues. – The amount of revenues from each

customer [but not the identity of each].– The industry segment(s) making the

salesto each such customer.

#1

#2

#3

Enterprise-Wide Disclosures:Major Customers

• Each is considered a SINGLE customer:– A group of entities known to be

under common control. – The federal government.– A state government.– A local government.– A foreign government.

Review Question #1

• Revtex’s 5 operating segments have total revenues of: #1—$100,000, #2--$200,000, #3—$300,000 (includes intrasegment revenues of $30,000), #4—$400,000, and #5—$500,000 (includes intrasegment revenues of $50,000). The revenues test is based on revenues of:A. $1,420,000 B. $1,450,000 C. $1,470,000 D. $1,500,000

Review Question #1With Answer

• Revtex’s 5 operating segments have total revenues of: #1—$100,000, #2--$200,000, #3—$300,000 (includes intrasegment revenues of $30,000), #4—$400,000, and #5—$500,000 (includes intrasegment revenues of $50,000). The revenues test is based on revenues of:A. $1,420,000 B. $1,450,000 ($1,500,000 - $50,000)C. $1,470,000 D. $1,500,000

Review Question #2

• Optex’s 5 operating segments have operating profits and losses of: #1—$100,000, #2—$(200,000), #3—$300,000, #4—$400,000, and #5—$500,000. The operating profit or loss test is based on 10% of:

A. $200,000 B. $1,100,000 C. $1,300,000 D. $1,500,000

Review Question #2With Answer

• Optex’s 5 operating segments have operating profits and losses of: #1—$100,000, #2—$(200,000), #3—$300,000, #4—$400,000, and #5—$500,000. The operating profit or loss test is based on 10% of:

A. $200,000 B. $1,100,000 C. $1,300,000 D. $1,500,000

End of Chapter 12

• Time to Clear Things Up—Any Questions?

Documents

CHAPTER 12 REPORTING SEGMENT AND RELATED INFORMATION