Segment reporting, also known as line of business reporting, is an essential element of financial disclosure in an organization’s annual report. This practice provides detailed insights into the different business activities and geographic locations where an entity operates. FASB Statement No. 14 stipulates the criterion and guidelines for such disclosures.
Criteria for Reportable Segments
For a segment to be reportable, it must meet one or more of the following tests:
Revenue Test
- The segment’s revenue is 10% or more of the combined revenue of all operating segments.
Operating Profit Test
- The segment’s operating profit is 10% or more of the combined operating profit of all segments. Note that this calculation excludes unallocable general corporate revenue and expenses, interest expense, and income taxes.
Identifiable Assets Test
- The segment’s identifiable assets constitute 10% or more of the combined identifiable assets of all operating segments.
Example
Consider a company with four segments, A, B, C, and D. If Segment A has a revenue of $200 million while the combined revenue of all segments is $1 billion, Segment A’s contribution is 20%, making it reportable under the Revenue Test.
Presentation Requirements in the Annual Report
Segment reporting must include:
Industry Information
- Clear depiction of results and significant financial data from various industries in which the entity operates.
Foreign Operations and Export Sales
- Disclosure of operations outside the company’s domicile country, including significant export sales figures.
Major Customers
- Information about major customers, especially if one customer accounts for 10% or more of total revenue.
Government Contracts
- Disclosures relating to revenue from significant government contracts, if applicable.
Applicability and Importance
Historical Context
FASB Statement No. 14, introduced by the Financial Accounting Standards Board (FASB), was designed to enhance the transparency and comprehensiveness of financial reporting. It mandates detailed disclosures to allow stakeholders better to understand the different facets of a business’s performance and risks.
Comparisons and Related Terms
- Management Accounting: An internal process for business segmentation and performance evaluation.
- Consolidated Financial Statements: Combined financial statements of parent and subsidiaries, where segment reporting provides additional granularity.
- Geographic Segment Reporting: Similarly apportions financial data based on geographic regions as segments.
FAQs
1. Why is segment reporting essential? Segment reporting provides stakeholders with a clearer picture of which parts of a business are performing well and which are underperforming. It adds depth to financial analysis and decision-making.
2. What if a segment no longer meets the criteria? If a segment no longer meets any of the three criteria over a continuous period, it should be reassessed for its reporting status. The relevant details should be adjusted in the financial statements accordingly.
3. Are there standardized formats for segment reports? While formats can vary, it’s crucial that segment reports include clear, comparable metrics such as revenue, operating profit, and identifiable assets for each segment.
References
- Financial Accounting Standards Board. (1976). FASB Statement No. 14.
Summary
Segment reporting is pivotal for a comprehensive understanding of a company’s multifaceted operations. By adhering to FASB Statement No. 14, organizations can provide valuable information about their different business segments, facilitating better stakeholder insights, decision-making, and regulatory compliance.
Proper segment reporting enhances transparency, helps identify performance drivers, and supports investors and management alike in making informed decisions based on detailed operational data.
