Chapter 14: Segment and Interim Financial Reporting by Jeanne M David, Ph.D., Univ of Detroit Mercy to accompany Advanced Accounting, 10th edition by Floyd A Beams, Robin P Clement, Joseph H Anthony, and Suzanne Lowensohn © Pearson Education, Inc publishing as Prentice 14-1 Segment and Interim Reporting: Objectives Understand how the management approach is used to identify potentially reportable operating segments Apply the threshold tests to identify reportable operating segments: the revenue test, the asset test, and the operating profit test Apply the 75% external revenue test to determine whether additional segments must be reported Understand the types of information that may be disclosed for segments and the reasons that the levels of disclosure may vary across companies © Pearson Education, Inc publishing as Prentice 14-2 Objectives (cont.) Understand what segment disclosures are reconciled to the consolidated amounts Know the types of enterprise-wide disclosures related to products and services, geographic areas of operation, and major customers that are required to be disclosed Understand the similarities and differences in the reporting of operations in an interim versus an annual reporting period Compute interim-period income tax expense © Pearson Education, Inc publishing as Prentice 14-3 Segment and Interim Financial Reporting 1: Reportable Operating Segments © Pearson Education, Inc publishing as Prentice 14-4 Operating Segments • • FASB Statement No 131 governs segment reporting Firm's internal reporting and evaluation system: – If it is geographically based • External segment reporting is geographically based – If it is product-line or industry based • External reporting is product-line or industry based © Pearson Education, Inc publishing as Prentice 14-5 Operating Segment (def.) • A component of a business enterprise Engages in business activities • • Revenues and expenses Includes intercompany amounts Operating results are reviewed by chief operating decision maker Discrete financial information is available Excludes pension and post-retirement plans, general corporate headquarters © Pearson Education, Inc publishing as Prentice 14-6 Combining Segments • Similar economic characteristics – – – – – Products and services Production processes Classes of customers Distribution systems Regulatory environment, if applicable © Pearson Education, Inc publishing as Prentice 14-7 Tests of Segments • Three tests to see if a segment exists: 10% Revenue test 10% Profit or loss test 10% Asset test • One test to see if sufficient segments have been identified 75% External revenue test © Pearson Education, Inc publishing as Prentice 14-8 Segment and Interim Financial Reporting 2: Threshold Tests © Pearson Education, Inc publishing as Prentice 14-9 Reportable Segments • Operating segments are reportable and material if any one of the three threshold tests are met Revenue test Asset test Profit or loss test • Segments not meeting any of the three tests are combined into one "all other" category © Pearson Education, Inc publishing as Prentice 14-10 Reconciliations Reconciliation schedules should be provided to explain the difference between segment amounts and consolidated totals Reportable segment revenue to consolidated revenue • Intersegment revenues Reportable segment profit and loss to consolidated income before taxes • Intersegment revenues, expenses, and common or allocated costs © Pearson Education, Inc publishing as Prentice 14-24 Reconciliations (cont.) Reportable segment assets to consolidated assets • Corporate assets If other significant information is disclosed, reconcile the segment amounts with consolidated amounts for each item © Pearson Education, Inc publishing as Prentice 14-25 Segment and Interim Financial Reporting 6: Enterprise-wide Disclosures © Pearson Education, Inc publishing as Prentice 14-26 Additional Disclosures Additional enterprise-wide disclosures – Products and services • Needed if not already reported with segment information Revenues by product/product line, service Geographic information • • • Revenues and fixed assets Domestic and foreign Specific country if > 10% © Pearson Education, Inc publishing as Prentice 14-27 Additional Disclosures (cont.) Major customers • • • • Customer revenues > 10% Revenues Segment which has those revenues Not required: customer identity © Pearson Education, Inc publishing as Prentice 14-28 Segment and Interim Financial Reporting 7: Interim versus Annual Reporting © Pearson Education, Inc publishing as Prentice 14-29 Accounting for Interim Periods Question about interim periods In terms of quarterly reports: Is each quarterly report separate from the other three quarters of the year, or is each quarterly report one of four integral parts of the annual report? APB Opinion No 28 says it is an integral part of the annual report © Pearson Education, Inc publishing as Prentice 14-30 An Integral Part • As an integral part of the annual report – Basically follow annual reporting procedures – May make some modifications to allow more frequent reporting • Integral to the annual report – Quarterly taxes are a portion of the annual taxes, probably use average effective rate • Separate reports – Each quarter bears its own taxes, probably use marginal tax rate © Pearson Education, Inc publishing as Prentice 14-31 Product Cost Modifications • • • • Use gross profit method to estimate inventory and cost of sales For LIFO inventories, may assume that liquidation of layers are temporary, with replacement of layers before year end Lower of cost or market for inventories may consider expected year end outcomes Standard costing variances may be deferred if expected to be absorbed by year end © Pearson Education, Inc publishing as Prentice 14-32 Other Expense Modifications • • Annual expenses may be allocated Advertising expenses may be deferred to later interim periods if clearly applies – Only in the same fiscal year • Income taxes from continuing operations – Use an estimated effective annual tax rate • Income taxes on unusual, infrequent and other items – Calculate separately and include in the interim period containing that item © Pearson Education, Inc publishing as Prentice 14-33 Segment and Interim Financial Reporting 8: Interim-Period Income Taxes © Pearson Education, Inc publishing as Prentice 14-34 Tax Rates Interim taxes on operations are based on estimated effective annual tax rate If expected annual taxable income = $120,000 Taxes = $22,250 + 39(120,000 – 100,000) = $30,050 Effective tax rate = 30,050 / 120,000 = 25.042% The 25.042% rate is used for all four quarters © Pearson Education, Inc publishing as Prentice 14-35 Interim Period Disclosures Sales or gross revenues Provision for taxes Extraordinary items, net of tax Cumulative effect of accounting changes Net income Additional items: Basic, diluted EPS Seasonal revenues, costs and expenses Significant change in estimated taxes Disposals, extraordinary, unusual, infrequent items Contingent items Changes in accounting principles or estimates Significant change in financial position © Pearson Education, Inc publishing as Prentice 14-36 Other Interim Disclosures • Segment information disclosures are reduced for interim reporting • SEC requires – Q1, Q2, Q3 and annual reports – Quarterly requirements similar to annual – Comparative information • Current quarter vs last year's • Quarterly and year-to-date © Pearson Education, Inc publishing as Prentice 14-37 All rights reserved No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher Printed in the United States of America Copyright © 2009 Pearson Education, Inc Publishing as Prentice Hall © Pearson Education, Inc publishing as Prentice 14-38 ... annual report – Quarterly taxes are a portion of the annual taxes, probably use average effective rate • Separate reports – Each quarter bears its own taxes, probably use marginal tax rate © Pearson... 14-30 An Integral Part • As an integral part of the annual report – Basically follow annual reporting procedures – May make some modifications to allow more frequent reporting • Integral to the annual... intercompany amounts Operating results are reviewed by chief operating decision maker Discrete financial information is available Excludes pension and post-retirement plans, general corporate headquarters