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In the year 2006 International Accounting Standards Board published IFRS 8, Operating Segments. The publication of the international financial reporting standard (IFRS) is because of continuing discussion between the United States, Financial Accounting Standards Board and the International Accounting Standards Board .IFRS 8 is almost similar to the US standard known as SFAS 131 . It seems that the main purpose of the alteration of the standard was to serve as a friendly gesture to the US accounting board so as to ensure a quick elimination of the 'reconciliation obligation' which is currently in use for businesses waiting to be listed on the US capital markets.
The scope and Reach of IFRS8 in Accounting
IFRS 8 affects any financial reports of any business which has its equity or debt instruments trading in a public market or in the process of floating any category of instruments in a public market. Any other businesses that decide to disclose its segment reports are supposed to arrange the disclosures in accordance with IFRS 8 especially where they write such disclosures as 'segment information'.
Recognition and Measurement of segments
IFRS 8 applies to financial statements even where the reports have been prepared separately or individually by an entity (and they also apply to consolidated accounts of a group with a parent company). IFRS 8 states that for an entity to be considered as an operating segment it has to fulfill the following conditions:
It must be involved in income earning commercial activities and incur operating costs (as well as revenues and expenses brought about by dealings with other sectors of the same business)
Its financial reports must be frequently analyzed by the principal decision maker who is also in charge of making decisions concerning resources to be allocated to the segment and review its performance. The word 'principal decision maker' is clearly stated in IFRS8 as referring to a role carried out and not just a title. This role in some companies can be done by a several directors instead of one person.
It must have distinct financial information easily obtainable.
This explanation shows us that not every sector of a business is essentially an operating segment. For example a situation where a company's headquarters generate little or no income, in such a scenario the headquarters cannot be termed as an operating segment.
Recognition of reportable segments
When an entity identifies an operating segment it's required to publish the segment information but only where the segment fulfills specific quantitative thresholds such as:
The income earned by the segment must be 10percent or more of the consolidated group earnings. This earnings figure must include both internal and external revenues of every operating segment.
The reported earnings must be 10percent or more of the greater of (i) the collective revenue of every operating segment which did not incur losses and (ii) the collective losses of every segment that incurred losses or
The collective segmental assets are ten percent or more of total assets owned by operating segments.
If the combined external revenue declared by the operating segments known using the size criteria is lower than 75percent of total entity revenue then extra segments must be included in the reports until they reach 75percent of revenue level.
Segments can be aggregated into one in cases where they have related commercial activities. This enables them to be analyzed collectively while considering the size criteria.
A company has recognized the following business segments.
Following the criteria stipulated in IFRS 8. The segments that would be published in the segmental report are:
Segment 'A' and 'B' would be categorized in a separate report because they fulfill all the size criteria. Segment 'C' and 'D' have not reached the size criteria and therefore have to be reported collectively. The external earnings of segment 'A' are 82 percent of combined external earnings therefore the 75 percent level is easily achieved. On the other hand if they had related commercial characteristics then when combined they can exceed the 10 percent level for earnings and therefore can be published in a report as a combined segment.
Use of IFRS8 makes it necessary that present period and relative segment information be reported in a consistent manner. Therefore if a segment is to be reported in the present period but wasn't in the preceding period the corresponding comparative information must be offered except in cases where it would turn out to be extremely expensive to obtain.
IFRS 8 enables businesses to have prudence in issuing reports regarding segments which don't satisfy the size criteria. Businesses can issue reports on segments in cases where managers have ascertained that information relating to the segment could be helpful to people who will use the financial reports.
Disclosures to be made by reportable segments are:
Entities are supposed to give specific information on such matters as how the process of identifying the segments as well as the categories of goods or services that every reportable segment gains its earning from.
Entities must report the level of profits or losses and entire assets for every segment. These reports ought to be gathered from information given to the chief operating decision maker. If he/she is consistently furnished with information regarding liabilities for each operating segment then these liabilities ought to be published in a segmental report on a segment basis.
IFRS 8 provides a guideline on disclosures which are necessary when reporting on profits made or losses incurred and assets .Disclosures are also needed in the following categories:
Earnings - both internal revenue and external revenue.
Interest received and interest cost incurred. Net interest is used except in cases where the greater part of a segment's earnings is gained from interest and the principal decision maker analyzes the results of the segment depending on interest revenue gained.
Amortization/depreciation of current and noncurrent assets.
Items of revenues and costs disclosed individually in the report.
Profits after deducting corporation taxes, and the book value of investment in, other businesses considered to be under the scope of the equity method.
Non-monetary items of balance sheet and income statement except amortization and depreciation.
The value of non-current assets added except financial derivatives, service benefit plans, deferred tax assets/liabilities, and rights issue based on an insurance agreements.
The measurement basis for each item separately reported should be the one used in the information provided: to the chief operating decision maker. The internal reporting system may use more than one measure of an operating segment's profit or loss, or assets or liabilities. In such circumstances the measure used in the segment report should be the one that management believes is most consistent with those used to measure the corresponding amounts in the entity's financial statements.
It's mandatory for Business entities to issue several reconciliations:
The sum of the segments' earnings.
The total profit made by each segment to the main company's profit.
The total assets of each segment must be reconciled to the main company's assets.
In cases where segments are separately classified, the total segments' liabilities are reconciled to the main company's liabilities.
The total amounts for any other significant item disclosed to the equivalent amount for the main company.
Company-wide disclosure requirements in IFRS8
Except in cases where there is no legal requirement to provide revenue information in the segment report, IFRS 8 makes it compulsory for companies to give information regarding its earnings on a geographical location and 'category of business' basis. Companies are also required to provide reports on non-current assets and liabilities based on geographical location of the segment; however this should not be used on a 'category of business' basis.
If earnings are gained from one external client which exceeds10% of the total earnings of the company in such a case the company needs to reveal that information plus:
the earnings received from client (even if the name of the client is not required) and
the segment receiving and reporting the earnings.
'Company-wide disclosures' are required especially where the company has one operating segment, and thus does not sufficiently make its segment report.
Countries which have not yet adopted IFRS 8 are currently using IAS 14. Some experts think the standard is inconsistent because of the degree of discretion it handles over to managements.
The complete breakdowns of effects of IFRS 8 are
Its use in management approach resulted in positive results on the value of the segment information gathered.
The improved effectiveness and weight of the segment information in regard to management approach overshadow concerns articulated when comparing different financial reports.
IFRS 8 properly considers the worldwide needs of financial reports' users on a geographical basis and does not decrease this information in real life application as compared to IAS 14.
IFRS 8 does not conflict with European Union laws on corporate governance.
IFRS 8 give suitable segment reporting policies for smaller businesses which are listed.
In conclusion I believe that the speedy endorsement of IFRS 8 will end the doubt regarding the treatment of financial statements and reports. Hopefully the aims of IFRS Board will be achieved and end the requirement for reconciliation between different accounting standards as well as end the conflicting use of IFRS8 and the IAS 14. I look forward to the outcome caused by the implementation of the IFRS8 with interest!