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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.

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CHAPTER 12

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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 pastperformance.

    • 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 underFAS 131 consists of disclosing the following 4 informational items:Operating segments.Products & services. Foreign operations/sales.Major customers.

#1

#2

FAS 131

#3

#4

#2, #3, & #4 are “entity-wide disclosures.” They

apply to ALL entities—even those having only l segment.


Segment and Related Information Reporting: Overview & Applicability

  • 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 (excludesnot-for-profit entities).


Segment and Related Information Reporting: Overview & Applicability

  • Public business enterprises are entities that:

    • Have issued debt or equity securitiesthat 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: Overview & Applicability

  • 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).


Segment Reporting:Basis of Segmentation

  • FAS 131 requires :

    • A SINGLE basis of segmentation.

    • The MANAGEMENT approach basis of segmentation.

In contrast, FAS 14 (which was superseded by

FAS 131) required TWO bases of segmentation—

by industry and by geographic areas.


Segment Reporting:Basis of Segmentation

  • 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.


Segment Reporting:Basis of Segmentation

  • The components that management establishes for reporting & decision-making are called OPERATING SEGMENTS. Such components:

    • Engage in activities from which they mayearn revenues and incur expenses.

      • Such activities include revenues and expenses resulting from transactionswith other segments (calledintersegmenttransactions).

#1


Segment Reporting:Basis of Segmentation

  • Such components (continued):

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

#2

Have discrete financial information available.

#3


Segment Reporting:Basis of Segmentation

  • 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.


Segment Reporting:Basis of Segmentation

  • What CouldNot Be an Operating Segment:

    • A corporate headquarters.

    • Functional departments that earn eitherno revenues or only incidental revenues.

  • What Is DefinitelyNot an Operating Segment:

    • An entity’s pension plan.

    • An entity’s postretirement benefit plan.


Segment Reporting:Disclosures Required

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

    • General information.

    • Specified amounts.

    • Reconciliations of specified amountsto consolidated amounts.

    • Certain interim period information.

TYPE

1

2

3

4


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 eachreportable segment derives its revenues.


Segment Reporting: Disclosures Required—Specified Amounts Information

  • TYPE 2—Specified Amounts Disclosures:

    • For eachreportable 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.


Segment Reporting: Disclosures Required—Specified Amounts Information

  • 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.


Segment Reporting: Disclosures Required—Specified Amounts Information

  • 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.


Segment Reporting: Disclosures Required—Specified Amounts Information

  • 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.


Segment Reporting: Disclosures Required—Specified Amounts Information

  • Key Point #4—Transfer Pricing:

    • FAS 131 did not establish a basisfor setting prices for sales or transfers either between or within segments.

    • Transfer pricing is more likely to bean issue withinvertically integrated operations thanbetweennonvertically integrated segments.


Segment Reporting: Disclosures Required—Specified Amounts 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 thatbenefit two or more segments).

      • Costs that are allocated must be allocated on a reasonable basis.

#1

#2


Segment Reporting: Disclosures Required—Specified Amounts Information

  • Key Point #6—Nonallocations:

    • Common costs need not be allocatedto or between segments.

    • Costs accounted for on a consolidated basis need not be allocated to segments (e.g. pension costs).


Segment Reporting: Disclosures Required—Specified Amounts 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 relatedfixed assets could not.


Segment Reporting: Disclosures Required—Specified Amounts 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) NOTallocated to segments.


Segment Reporting: Disclosures Required—Specified Amounts 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 NOTallocated to segments.


Segment Reporting: Disclosures Required—Specified Amounts 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 tolong-lived assets.


Segment Reporting: Disclosures Required—Specified Amounts 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.


Segment Reporting: Disclosures Required—Specified Amounts 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.


Segment Reporting: Disclosures Required—Specified Amounts 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


Segment Reporting: Disclosures Required—Specified Amounts 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 operatingsegment.

  • ONLYONEof the three 10% tests need bepassed. 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 profitsthat DIDNOTreport a lossor

    • LOSS of all operating segmentsthat 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

    • DeterminingReportable 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.

    • DescribingReportableOperatingSegments:

      • 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 isimpracticalto disclose this product and service information, disclose that fact.


    Enterprise-Wide Disclosures: GeographicAreas—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: GeographicAreas—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:GeographicAreas—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: GeographicAreas—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 beunder 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?


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