13 Segment and Interim Reporting McGraw-Hill/Irwin © 2009 The McGraw-Hill Companies, Inc All rights reserved Segment Reporting Accounting Issues • FASB 131 - A management approach to the definition of segments – Focus on financial information that an enterprise’s financial decision makers use to evaluate the entity’s operating segments 13-2 Segment Reporting Accounting Issues • FASB 131 defines an operating segment as having three characteristics: The component unit’s business activities generate revenue and incur expenses, including any revenue or expenses in transactions with other business units of the company The component unit’s operating results are regularly reviewed by the entity’s chief operating decision maker, who then determines the resources to be assigned to the segment and evaluates it Separate financial information is available for the component unit 13-3 Segment Reporting Accounting Issues • Issues – Generally, the corporate headquarters is not a separate operating segment – The company may choose to aggregate several individual operating segments that have very similar economic characteristics – Management belief that aggregation will provide more meaningful information to users – Allocation of costs to specific segments 13-4 Segment Reporting Accounting Issues • International Financial Reporting Standards for operating segments – IFRS specifies segment reporting – This standard requires disclosure of information about an entity’s reportable operating segments both in its annual and its interim financial statements – International standards are similar to those of U.S GAAP although there are several differences 13-5 Information about Operating Segments • 10 percent quantitative thresholds: • Separate disclosures required for segments meeting at least one of the following tests: 10 percent revenue test 10 percent profit (loss) test 10 percent assets test 13-6 Information about Operating Segments • 10 percent revenue test – Applied to each operating segment’s total revenue as a percentage of the combined revenue of all segments before elimination of intersegment transfers and sales – If an operating segment’s total revenue is 10 percent or more of the combined revenue of all segments, then the segment is separately reportable and supplementary disclosures must be provided for it in the annual report 13-7 Information about Operating Segments • 10 percent profit (loss) test – Determine whether a segment’s profit or loss is equal to or greater than 10 percent of the absolute value of either the combined operating profits or the combined operating losses of the segments, whichever is greater 13-8 Information about Operating Segments • 10 percent assets test – Determine if the segment’s assets are 10 percent or more of the total assets of all operating segments – Items composing each segment’s assets are defined by management, as used for internal decision-making purposes 13-9 Information about Operating Segments • Comprehensive disclosure test – 75 percent consolidated revenue test – Applied after determining which segments are reportable under any of the 10 percent tests – The total revenue from external sources by all separately reportable operating segments must equal at least 75 percent of the total consolidated revenue 13-10 Accounting Issues • Discrete versus Integral view – The integral theory of interim reporting views an interim period as an installment of an annual period – Recognition and adjustment of certain income or expense items may be affected by judgments about the expected results of the entire year’s operations • The integral view was selected by APB as the primary theory for interim reporting 13-26 Accounting Issues • Accounting pronouncements on interim reporting – APB 28 - Standardized the preparation and reporting of interim income statements – FASB 154 - Specifies that a change in an accounting principle made in an interim period is reported using the retrospective application to the prechange interim periods for the direct effects of the change 13-27 Accounting Issues • Accounting pronouncements on interim reporting – FIN 18 - Tackles the problems of measuring the tax provision for interim reports when the actual tax expense is based on annual income – IAS 34 - International Financial Reporting Standards for interim reporting; similar to those of U.S GAAP 13-28 Reporting Standards for Interim Income Statements 13-29 Reporting Standards for Interim Income Statements • Revenue – The measurement basis used in an interim period should be the same as that used for the full fiscal year – Revenue from seasonal businesses cannot be manipulated to eliminate seasonal trends 13-30 Reporting Standards for Interim Income Statements • Cost of goods sold and inventory – General rule: Interim cost of goods sold should be computed with the direct and allocated cost elements on the same basis as used to compute the annual cost of goods sold – APB 28 does permit the following practical modifications to this rule: • • • • Use estimated gross profit rates LIFO temporary liquidations Lower-of-cost-or-market valuations Standard cost systems 13-31 Reporting Standards for Interim Income Statements • All other costs and expenses – General principle: Costs and expenses should be charged to interim income in the interim period in which they are incurred – Some costs and expenses however, are allocated among the interim periods based on: • • • An estimate of time used An estimate of benefit received, or Activity level of the interim period 13-32 Reporting Standards for Interim Income Statements • Income taxes in interim periods – The first step is to determine the effective annual tax rate for use in computing the interim income tax provision – The estimated rate includes all anticipated tax credits, state income taxes, foreign income taxes, capital gains taxes, and other tax planning efforts expected for the full fiscal – The estimate is updated each interim period and the interim tax provision or benefit is then determined 13-33 Reporting Standards for Interim Income Statements Income taxes in interim periods – Items such as unusual or infrequent events, discontinued operations, and extraordinary items are not included in the estimate – Differences between book and tax income • • “Permanent” or nontemporary differences “Temporary” differences – Loss carryback and carryforward provisions apply only to annual results, not to interim results 13-34 Reporting Standards for Interim Income Statements • Disposal of a component or extraordinary, unusual, infrequently occurring, and contingent items – Measurement and reporting on the same bases as used to prepare the annual report – Extraordinary items, discontinued operations, and unusual and infrequently occurring items should be reported in the interim period in which they occur – The materiality test for extraordinary items should be based on the income estimate for the entire fiscal year 13-35 Reporting Standards for Interim Income Statements – The materiality test for discontinued operations and unusual and infrequent transactions should be based on the operating income of the interim period in which the discontinued operations are first reported – Contingencies that could affect the company also must be disclosed on the same basis as that used in the annual report 13-36 Accounting Changes in Interim Periods • Change in an accounting principle – Requires retrospective application – Only the direct effects of the change, including any related tax effects, are included in the retrospective application – A change from an accounting principle not generally accepted to a generally accepted accounting principle is a correction of an error, requiring restatement of all prior financial statements 13-37 Accounting Changes in Interim Periods • Change in an accounting estimate – The result of new information that becomes available to the entity – These changes are reported on a current and prospective basis only 13-38 Accounting Changes in Interim Periods • Change in a reporting entity – Requires retrospective application – Primary examples of changes are: • • • Presenting consolidated or combined financial statements rather than individual statements for the separate entities Changing the specific subsidiaries that comprise the consolidated entity for which consolidated financials are presented Changing the entities that are included in combined financial statements 13-39 Accounting Changes in Interim Periods • International Financial Reporting Standards for accounting changes – IAS provides the accounting treatment and disclosures for changes in accounting policies, changes in accounting estimates, and corrections of errors – The international standards for these changes are very similar to U.S GAAP 13-40 ... Quarterly financial statements need not be audited – Selected quarterly financial data must be reported in a footnote in the annual financial report 13- 21 The Format of the Quarterly Financial. .. affected by judgments about the expected results of the entire year’s operations • The integral view was selected by APB as the primary theory for interim reporting 13- 26 Accounting Issues • Accounting. ..Segment Reporting Accounting Issues • FASB 131 - A management approach to the definition of segments – Focus on financial information that an enterprise’s financial decision makers use