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This study investigates the alignment between firms' segment definitions and their internal organizational structures to assess representational faithfulness in accounting disclosures. Drawing on strategy and finance literature, it analyzes how segment grouping choices changed post-SFAS No. 131 and explores relatedness of operations within and across segments. The research includes hypotheses testing and comparative analysis of single-multi and multi-multi firms, revealing patterns in industry relatedness, growth opportunities, and competitive environments. The study concludes that firms altering their segment definitions tend to enhance representational faithfulness, with single-multi change firms adapting well under SFAS 131. Conversely, firms maintaining their segment definitions may lag in accurately reflecting their internal organizational designs post-SFAS 131.
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Following SFAS No. 131, do firms’ segment definitions more faithfully represent their internal organizational designs? Why this question? • Representational faithfulness is a key qualitative characteristic of accounting. • Elevated to a primary characteristic in the new conceptual framework. • Little research evidence regarding representational faithfulness of firms’ disclosures. Why this context? • Research in strategy and finance provides a theoretically supported approach for capturing the underlying economics of the business activities segment disclosure intends to convey. • Important objective of SFAS No. 131 was to enhance the faithful representation of firms’ segment disclosures.
Prior Research SFAS 14: Industry approach. • Motives other than faithful representation influenced segment definitions. • E.g. exposure to proprietary and/or agency costs. (Harris 1998, Botosan and Stanford 2005, Berger and Hann 2007) SFAS 131: Management approach. • Greater disaggregation and more information. • Hermann and Thomas 2000, Berger and Han 2003. • Greater consistency with other parts of 10-k (e.g. MD&A). • Street et. al 2000.
Research Design • Strategy and finance literature suggest that relatedness of operations is a critical dimension of optimal structuring of business activities. • Key assumption. • Firms organize operations internally to maximize firm value. • Examine firms’ segment grouping choices before versus after SFAS No. 131. • Four types of firms. • Change firms: single-multi and multi-multi. • No-change firms: single-single, multi-multi. • Examine relationships within and across segments.
Hypotheses 1, 2 & 3 Hypotheses 4, 5 & 6 Within Segment Analysis • Among operations grouped as segments, there is a significant increase in: • Industry relatedness. • Similarity of competitive environments. • Similarity of growth opportunities. Across Segment Analysis • Across segments, there is a significant increase in the diversity of: • Operating activities (i.e. a decrease in relatedness). • Competitive environments. • Growth opportunities.
Within Segment Analysis of a Single_Multi Firm Secondary Primary Across Segment Analysis of a Multi_Multi Firm
Comparing Change Firms to No Change Firms mean values shown
Overall Conclusions • For firms that changed their segment definitions. • Managers alter groupings to more faithfully represent their internal organizational design. • Single-multi change firms took greatest advantage of flexibility under SFAS 14, but under SFAS 131 provide relatively most representationally faithful disclosures. • For firms that did not change their segment definitions. • Post –SFAS 131, lag behind change firms in providing segment definitions that parallel their presumed internal organizational structure.
