Week 10 - Segment reporting & analysis

Question 1

3 main purposes of a segment report

Answer 1

1. On top of consolidated/published FSs, segment reports provide separate additional information (+ more detailed breakdown) about each of the entity’s segments (biz activity or economic environment / geography)
   - What for?
   - Most entities derive revenue from various segments. This has implications for the investment strategy of the entity as different segments require different amounts of INVESTMENT to support their activities.
2. Enable users to evaluate & be more AWARE of the nature & financial effects of the activities engage in & environments in which the co. operates
   eg. profitability rate, opportunities for growth, future prospects & risks,
   - the IMPACT changes in the key segments may have on the biz as a whole
3. Provide a better LINK between the FSs and the info reported in mgmt commentaries, eg. a strategic report

Question 2

Operating segment, according to IFRS 8 Operating segments

Answer 2

A COMPONENT of an entity:
1. that engages in biz activities from which it may earn revenues AND incur expenses
2. 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
3. for which DISCRETE financial information is available

Question 3

10% thresholds - to decide if an operating segment is reportable

> will usually comprise a single O.S. but can combine 2 or more if they have SIMILAR ECONOMIC CHARACTERISTICS
remaining segments are categorised into ‘All other segments’

Answer 3

Meet ANY of the following criteria:
- its REVENUE (external AND internal) is at least 10% of total revenue of all operating segments, or
- its reported PROFIT/LOSS is 10% or more of the greater of
(i) the combined profit of all operating segments that did not report a loss; and
(ii) the combined reported loss of all operating segments that reported a loss; or
- its ASSETS are at least 10% of total assets of all operating segments.

Question 4

75% rule

Answer 4

At least 75% of total external revenue must be included in reportable segments.
If not, additional segments must be identified as reportable (even though they are beneath all the 10% thresholds).

Question 5

4 types of disclosures required by IFRS 8

Answer 5

1. General information
   - disclose the factors used to identify its reportable segments & the types of products/services from which each reportable segment earns its revenues
   - the way the entity is organised internally should be made clear
   - whether or not any operating segments have been combined for segment reporting
2. Information about reportable segments - segment profit or loss
   + any other info, eg. segment total assets, if provided to CODM
3. Reconciliations
   - total revenue/P&L/assets/liabilities of reportable segments to the entity’s __
4. Entity-wide information
   - products/services, geographical areas, MAJOR CUSTOMERS if a customer accounts for at least 10% of total external revenue

Question 6

Issues with segment reporting: “management approach” & CODM’s discretions

+ usefulness of segment reporting for users

Answer 6

1. We don’t know exactly who is the CODM. IFRS 8 defines it as a FUNCTION
2. CODM’s DISCRETION as to the…
   - definition of each segment
   - allocation of common costs to segments
   - definition of some of the items to be disclosed, eg. net assets
   - “quality” of the items to be disclosed, eg. depending on the availability of info (but it’s up them to say!)

Note:
Segment reporting/IFRS 8 is a PURE DISCLOSURE standard so has no impact to FSs but relevant info for users. However, important to use the info carefully as the biz might have a motive to show themselves in a diff. sense to users & may not be high QUALITY.

Pros
1. Supplement the limitation of consolidated FSs through providing management perspectives to users

Question 7

4 examples of benefits of more and high quality disclosure

Answer 7

1. Higher transparency so attract more investments
2. Reduce cost of capital
   - market participants willing to provide capital at lower cost since no need to find out info for themselves
3. Reduce information asymmetry
4. Improve market efficiency

Question 8

3 theories on the rationales of firms withholding information, rather than naturally disclosing the highest standards of info regardless of mandatory requirements

Answer 8

1. Proprietary cost theory
   - information withheld could assist existing rivals or foster new competition through entry.
   -> to maintain competitive advantage & block new competitors
2. Agency theory
   - could conceal managers’ self-interests and poor performance, hence lower monitoring/agency costs
3. Litigation theory
   - Law/rules require info disclosed by managers to be truthful. So withhold info to prevent the threat of litigation (costly)
   -> but withholding info for long term is also costly & cannot be sustained, ie. possible acct. scandals