Specifics of Segment Reporting - Assignment Example

SEGMENT REPORTING By of the of the School Introduction Segment reporting is defined as the reporting for the company’s separate operating segments as additional disclosures to its financial statements (IFRS 8 website). It entails partitioning the company into sectors and then reporting both non-financial and financial information for each of the parts. The company is able to divide its operations into several ways; however, the most common ones involve the segmentation by geographical area, by industry or business type or a combination of both of those. IFRS 8 is applicable to the financial statements of any business whose equity or debt instruments are traded in any public market. IFRS 8 states that an operating segment is a component of any organization that engages in business activities that earn revenue. The entity’s operating results must also be regularly reviewed by the chief operating decision maker. In addition, the entity must have discrete financial information. In business, an operating segment is that an independent unit that produces discriminated revenue thus necessitating preparation of separate books of transactions. It helps companies to track their performance in different areas of the market (IFRS 8 website). The paper discusses the reasons why the provision of segmental information is useful, current requirements of IFRS 8 and how they differ with other past and present accounting standards. It also presents the evidence as to whether the current requirements increase the quality of information available to users of financial statements. Usefulness of the provision of segmental information A good number of market participants and stakeholders are usually interested in the disclosures of information regarding the operating segments of the company. The provision of segmental information ensures that users of financial statements access information relating to the firm’s past performance, their risks and returns so as to be able to make informed decision or judgment about the entity in entirety (Christian & LüDenbach, 2013, p. 451). It ensures that users of information easily access the information regarding performance and prospects of the particular part of the entity that which they are interested. The stakeholders need to consider separate prospects and performance of each sector so as to be able to estimate the performance of the entire enterprise fully. Provision of segmental information ensures transparency. Transparency is the cornerstone of any corporate financial reporting because analysts and other stakeholders require complete and accurate information to assess the growth and sustainability of a company and to examine the performance of its managers. Complete disclosures of information help in the appropriate valuation of firms and hence helps improve the efficiency of the capital market (Christian & LüDenbach, 2013, p. 451). Therefore, businesses that operate in different geographical areas or categories are required to reveal the areas that are profitable and the ones that drain the bottom line so that a change in strategic direction can be instigated. Provision of segmental information, therefore, prevents managers from hiding unprofitable ventures. The provision also ensures that the context of reporting is improved. It allows the company’s stakeholders to have a better understanding and sense of the fluctuations that are able to affect the overall numbers. For example, it shows where the earnings come from in case company reports very high earnings than expected. The stakeholders have the opportunity to examine the same report to establish if the reported numbers are sustainable. Provision for segmental reporting is, therefore, designed to assist investors, and other stakeholders better understand the business as well as its potential cash flow because they are able to combine external information with company specific information (Christian & LüDenbach, 2013, p. 451). Finally, the provision ensures reliability and consistency. It requires greater disclosure of disaggregated information that allows for stakeholders to predict the companys future prospects more reliably even though the performance of each business may be impacted by quite distinct factors. Accounting standards require firms to disclose information rooted in internal management information system (MIS), they do not require them to redefine segments for external reporting. This aims at allowing investors and other stakeholders to see the firms from the eyes of the management thus ensuring consistency in the reporting. The investors are, therefore, able to predict the actions of management that are able to considerably affect the company’ future cash flows (Christian & LüDenbach, 2013, p. 451). Current requirements of IFRS 8 Required disclosures include: a) General information detailing how the entity recognized its operating segments as well as the types of services and products that generates revenues for each operating segment b) Management’s judgment regarding the application of the aggregation criteria to permit aggregation of two or more operating segments. c) Information on each reportable segment’s profit and loss. This includes certain specified expenses and revenues, for instance, revenue from transaction with other segments and from external customers, interest expense and revenue, income tax expense or income, depreciation and amortization and material non-cash items. d) A measure of total liabilities and total assets for each reportable segment as well as the amount in joint ventures and associates and capital expenditure. e) Reconciliations of reported segment profit or loss, segment revenues totals, segment liabilities, segment assets and other material items to equivalent items in the financial statements of the entity. f) Required entity-wide disclosures such as information about each service and product or groups of services and products. g) Information on the transactions with main customers. h) Analyzes of certain non-current assets and revenues by geographical area The difference between IFRS 8 and other past and present accounting standards The requirements of IFRS 8 differ with other past, and present accounting standards is the number of ways. First, with regards to identification of segments, IFRS 8 identifies segments on the basis of internal reports that are reviewed regularly by the chief operating decision maker while other standards, for instance, IAS 14 identifies segments on the basis of international organizational and financial reporting structure of the entity (based on risks and reward qualification) (IAS 14 website). Second, IFRS 8 requires disclosures about factors that are employed in identifying the operating segments as well as the explanation product or service types that generate revenues, however, such disclosures are not required by other past and present accounting standards. Third, IFRS 8 requires entity-wide information (geographical information as well as information regarding main customers of an entity while other accounting standards do not require such information. Fourth, with regards to measurement of segment information SSAP 25 offers specific definitions on how segment revenues, assets, results and liabilities are measured (SSAP 25 Segmental Reporting) while IFRS 8 requires that segment information be measured the same way as management reports it. There should be no specific definition on how segment revenues, assets, results, and liabilities are measured Fifth, under types of segments, IFRS 8 has operating segment while IAS 14 business segment and geographical segment. Finally, IAS 14 requires a reconciliation of primary segment revenue to entity revenue from external customers while IFRS 8 requires a reconciliation of operating segment revenue to entity revenue. Evidence proving that current requirements increase the quality of information Quite a number of researches have been conducted concerning the effects of the introduction and adoption of IFRS 8 on the quality of financial information. The first research was conducted by Louise Crawford, Heather Extance, Christine Helliar and David Power (2012) to establish the impact of IFRS 8. The authors discovered that the accounting standards increased the quality of information because it helped investors to make useful and informed decisions (Post-implementation Review). According to the research, adoption of IFRS 8 reduced information asymmetry between investors and managers because it demands disclosures of relevant and timely information. Investors have, therefore, been able precisely to estimate the firms fair value due to complete information (Nichols et al 80). Another empirical research conducted by Nancy B. Nichols, Donna L. Street and Sandra J. Cereola (2012) also examined the effectiveness of IFRS in increasing the quality of information. The main empirical results of the study found out that the adoption of IFRS 8 provided a significant increase and improvement in the quality of geographic segment information that is disclosed (Post-implementation Review). Also, there is an increase in the average number of operating segments that are reported, the companies have been able to report many measures of segment profitability (Crawford et al 120). The consistency of segment information with the consolidated financial statement has also increased as well. Conclusion Segment reporting entails partitioning the company into sectors and then reporting both non-financial and financial information for each of the parts. The provisions of segmental information are very crucial to stakeholders. It ensures that stakeholders of accompany are in constant access of relevant and accurate information so as to be able to make informed decision or judgment about the entity in entirety. In addition, it has increased transparency on the part of managers to provide complete and accurate information for stakeholders to assess the growth and sustainability of a company and to examine the performance of the management. There are several differences between such IFRS 8 and other past and present accounting standards; for instance, IFRS 8 identifies segments on the basis management approach while IAS 14 identifies segments on the basis risks and reward qualification. IFRS 8 requires disclosures on factors used in identifying operating segments while other past and present accounting standards do not. Adoption of IFRS 8 has increased the quality of information available to the users of financial statements by reduced information asymmetry between investors and managers thus ensuring disclosures of relevant and timely information to enable investors to precisely estimate the firm’s fair value. References Christian, D., & LüDenbach, N. (2013). IFRS essentials. Chichester, West Sussex, Wiley Crawford L., Extance H., Helliar C. and Power D. (2012), Operating segments: The usefulness of IFRS 8. Edinburgh: ICAS IAS 14 website, retrieved from: http://www.iasplus.com/en/standards/ias/ias14, IFRS 8 website, retrieved from: http://www.iasplus.com/en/standards/ifrs/ifrs8. Nichols N., Street D. and Cereola S. (2012), An analysis of the impact of adopting IFRS 8 on the segment disclosures of European blue chip companies, Journal of International Accounting, Auditing and Taxation 21 (2012) 79– 105 “Post-implementation Review: IFRS 8 Operating Segments”, Published for comment by the International Accounting Standards Board, July 2012 SSAP 25 Segmental Reporting. retrieved from: http://frc.org.uk/Our-Work/Publications/ASB/SSAP-25-Segmental-reporting-File.pdf. . Read More