Operating segments final

OPERATING SEGMENTS N R GOVINDARAJAN CHARTERED ACCOUNTANT FCA,AICWA,CISA,DISA

AS 17 VS ED AS 17 (REVISED) AS 17 VS ED AS 17

Introduction Providing information about segments based on the structure of an entity’s internal organisation that could enhance a user’s ability to predict actions or reactions of management that could significantly affect the entity’s future cash flow prospects.

Introduction Based on the way that management regards an entity, focusing on information about the components of the business that management uses to make decisions about operating matters Adoption of “Management Approach” In short, enabling the users to see an entity through the eyes of management

Introduction The benefits that accrue are: (a) entities will report segments that correspond to internal management reports; (b) entities will report segment information that will be more consistent with other parts of their annual reports; (c) some entities will report more segments; and (d) entities will report more segment information in interim financial reports

Core priniciple An entity shall disclose information to enable users of its financial statements To evaluate the nature and financial effects of the business activities in which it engages and the economic environments in which it operates

Core priniciple It specifies how an entity should report information about its operating segments in annual financial statements Amendment to IAS 34 Interim Financial Reporting , requires: An entity to report selected information about its operating segments in interim financial reports . It also sets out requirements for related disclosures about products and services, geographical areas and major customers .

Scope IFRS 8 shall apply to: (a) the separate or individual financial statements of an entity: (i) whose debt or equity instruments are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local and regional markets), or (ii) that files, or is in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market; (b) the consolidated financial statements of a group with a parent : (i) whose debt or equity instruments are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local and regional markets), or (ii) that files, or is in the process of filing, the consolidated financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market.

Operating Segments An operating segment is a component of an entity: (a) that engages in business activities from which it may earn revenues and incur expenses (including revenues and expenses relating to transactions with other components of the same entity)

Operating Segments (b) whose operating results are regularly reviewed by the entity’s chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance, and (c) for which discrete financial information is available. Detailed guidance is available in Paras 5 to 10 Start-up operations may be operating segment before earning revenues.

Operating Segments every part of an entity is NOT necessarily an operating segment or part of an operating segment – corporate headquarters or some functional departments may not earn revenues or may earn revenues that are only incidental to the activities of the entity and would not be operating segments

Chief Operating Decision Maker Identified by “function” and NOT necessarily a manager with a specific title “Function” is to allocate resources to and assess the performance of the operating segments of an entity May be CEO, COO, it may be a group of executive directors or others

Segment Manager an operating segment has a SEGMENT MANAGER who is directly accountable to and maintains regular contact with the chief operating decision maker To discuss operating activities, financial results, forecasts, or plans for the segment. CASE STUDY

Reportable Segments After the identification of OPERATING SEGMENTS the entity should identify the REPORTABLE SEGMENTS An entity shall report separately information about each operating segment that: (a) has been identified in accordance with paragraphs 5–10 or results from aggregating two or more of those segments in accordance with paragraph 12, and (b) exceeds the quantitative thresholds in paragraph 13. Paragraphs 14–19 specify other situations in which separate information about an operating segment shall be reported. There is a decision tree in the IG that may be followed to identify the reportable segments

Aggregation Operating segments often exhibit similar long-term financial performance if they have similar economic characteristics. Eg: Similar long-term average gross margins for two operating segments would be expected if their economic characteristics were similar.

Aggregation Two or more operating segments may be aggregated into a single operating segment if: aggregation is consistent with core priniciples of IFRS 8. If the segments have similar economic characteristics, and the segments are similar in each of the following respects: (a) the nature of the products and services; (b) the nature of the production processes; (c) the type or class of customer for their products and services; (d) the methods used to distribute their products or provide their services; and (e) if applicable, the nature of the regulatory environment, Eg: banking, insurance or public utilities.

Aggregation The aggregation criterion is quite strict Only homogeneous operations qualify for aggregation No detailed guidance on what is “ similar” is available in the IFRS Hence the aggregation process adopted by the management itself is subject to greater degree of judgement

Quantitative thresholds Information on an operating segment should be separately reported if: reported revenue (external and inter-segment) is 10% or more of the combined revenue of all operating segments; the absolute amount of the segment’s reported profit or loss is 10% or more of the greater of: the combined reported profit of all operating segments that did not report a loss, and the combined loss of all operating segments that reported a loss; the segment’s assets are 10% or more of the combined assets of all operating segments.

Quantitative thresholds Operating segments that do not meet any of the quantitative thresholds may be considered reportable, and separately disclosed, if : Management believes that information about the segment would be useful to users of the financial statements.

Quantitative thresholds If the total external revenue reported by operating segments constitutes less than 75 per cent of the entity’s revenue, Additional operating segments shall be identified as reportable segments (even if they do not meet the criteria) until At least 75 per cent of the entity’s revenue is included in reportable segments. CASE STUDY

Quantitative thresholds Information about other business activities and operating segments that are not reportable shall be combined and Disclosed in an ‘all other segments’ category separately from other reconciling items in the reconciliations required by paragraph 28

Previous year vs Current year If management judges that an operating segment identified as a reportable segment in the immediately preceding period is of continuing significance, Information about that segment shall continue to be reported separately in the current period even if it no longer meets the criteria for reportability

Identified during the current year If an operating segment is identified as a reportable segment in the current period in accordance with the quantitative thresholds, Segment data for a prior period presented for comparative purposes shall be restated to reflect the newly reportable segment as a separate segment, even if : That segment did not satisfy the criteria for reportability in paragraph 13 in the prior period, unless the necessary information is not available and the cost to develop it would be excessive

Limit on reportable segments? There may be a practical limit to the number of reportable segments that an entity separately discloses beyond which segment information may become too detailed. Eventhough no limit is prescribed, if the number goes beyond 10 the entity should consider whether the practical limit has been reached?

Disclosures General information Information about the reportable segment; profit or loss, revenue, expenses,assets, liabilities and the basis of measurement Reconciliations Measurement principles Restatement of previously reported information Entity wide disclosures

General information Factors used to identify the reportable segments Types of product/service from which each reportable segment derives its revenue.

Segment information and Measurement An entity shall report a measure of profit or loss for each reportable segment. An entity shall report a measure of total assets and liabilities for each reportable segment if such amounts are regularly provided to the chief operating decision maker.

Specific Disclosures A number of specific disclosures such as: 1. revenues from external customers 2. revenues from transactions with other operative segments 3. Interest revenue and expense 4. Depreciation 5. The entity’s interest in the profit or loss of associates and JV accounted for by the equity method 6. Income tax expense 7. Material Non cash items other than depreciation if they are included in segment profit or loss or presented regularly to the CODM even if not included

Measurement disclosures Explanation of the measurement of the segment profit or loss, segment assets and liabilities for each reportable segment Basis of accounting for transactions between reportable segments Nature of any differences between measurements of the reportable segment assets and segment liabilities and entity’s assets and liabilities

Measurement disclosures Nature of changes from prior periods in the measurement methods used to determine reported segment profit or loss and the effect of changes, if any. the nature and effect of any asymmetrical allocations to reportable segments. For example, an entity might allocate depreciation expense to a segment without allocating the related depreciable assets to that segment.

Reconciliations Totals of segment revenue, segment profit or loss, segment assets and segment liabilities and any other material segment items to corresponding totals within the financial statements.

Restatements If an entity changes the structure of its internal organisation in a manner that causes the composition of its reportable segments to change, the corresponding information for earlier periods, including interim periods, shall be restated unless the information is not available and the cost to develop it would be excessive. the entity shall disclose in the year in which the change occurs If not restated segment information for the current period on both the old basis and the new basis of segmentation,

Entity wide disclosures Revenues from external customers for each product and service, or each group of similar products and services. Revenues from external customers attributed to the entity’s country of domicile and attributed to all foreign countries from which the entity derives revenues. Revenues from external customers attributed to an individual foreign country, if material.

Entity wide disclosures Non-current assets (other than financial instruments, deferred tax assets, post-employment benefit assets, and rights arising under insurance contracts) located in the entity’s country of domicile and in all foreign countries in which the entity holds assets. Non-current assets in an individual foreign country, if material. Extent of reliance on major customers, including details if any customer’s revenue is greater than 10% of the entity’s revenue

Transition and effective date An entity shall apply this IFRS in its annual financial statements for periods beginning on or after 1 January 2009. Earlier application is permitted. If an entity applies this IFRS in its financial statements for a period before 1 January 2009, it shall disclose that fact.

Practical Issues Experience from PwC in the US shows that: Identifying the chief operating decision maker (CODM) can be difficult. Judgements about the components of an entity that are regularly reviewed by the CODM have been challenging and subject to regulatory scrutiny. The regulator has challenged companies about the identification of operating segments and the appropriateness of aggregating operating segments. Companies subject to Sarbanes-Oxley Section 404 requirements may incur additional costs in ensuring that internal processes and systems are sufficiently robust in capturing internal segment information *Source:PWC publication – Practical Guide to Segment Reporting - 2008

SUMMARY It is a disclosure standard. Identifies only operating segments Gives disclosures of disaggregated financial information by operating segment. Extensive disclosures A component of an entity that sells primarily or exclusively to other operating segments of the entity is included in the IFRS’s definition of an operating segment. AS 17 Segment Reporting requires reporting of Geographical & Business segments Primary and Secondary segments For changes in segment accounting policies, prior period segment information need not be restated reportable segments are those that earn a majority of their revenue from sales to external customers No requirement of reporting of the different stages of vertically integrated operations as SEPARATE SEGMENTS

Operating segments final

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