Segment Reporting Meaning
Segment Reporting is the disclosure of financial details of key units or segments by public companies and is based on certain regulatory requirements. Such segment-wise reporting helps the company’s stakeholders understand revenue, expenses, and other ratios for each business unit and can decide about their investment accordingly.
Large organizations divide their business into different units where these units are created based on their product or the geographical location wise. The units are termed as segments of the organization. At the end of the year result of all units are to be merged with that of the organization, but certain units, as per the criteria mentioned has to be reported separately where the criteria for segment reporting is as follows –
- Revenue of segment is to be greater than or equal to 10 percent of the revenue of the organization as a whole; or
- Profit of the segment is to be greater than or equal to 10 percent of the profit of the organization; or
- Assets of the segment are to be greater than or equal to 10 percent of the organization’s total assets.
If any segment meets any of the above criteria, then that segment is to be reported separately, i.e., all income, expenses, assets, and liabilities of that segment are shown separately as per the requirements of law.
The objectives of segment reporting are described as under –
- For a better understanding of the performance and evaluation of the results of the organization.
- To provide the information to the stakeholders about the important units of the organization to evaluate and make decisions about the investment.
- To make the accounts more transparent and understandable.
- To make better decisions by taking in mind the business from different segments.
- For a better analysis of the risk and returns of the organization.
- To analyze the most profitable or Loss-making units.
Example of Segment Reporting
- A Ltd has 8 units based on product-wise. Each unit deals with different products. The Revenue, Profits, and the Assets of each unit is shown as under –
(Amount in $ in Million)
Which units are to be reported as per segmental reporting?
The unit is to be reported as per segment reporting if –
- Assets of the unit are greater than or equal to 10 percent of the organization’s total assetsTotal AssetsTotal Assets is the sum of a company's current and noncurrent assets. Total assets also equals to the sum of total liabilities and total shareholder funds. Total Assets = Liabilities + Shareholder Equity.
- Profit or loss is more than or equal to 10 percent of the organization’s total profit or loss.
- Revenue is more than or equal to 10 percent of the total revenueRevenueRevenue is the amount of money that a business can earn in its normal course of business by selling its goods and services. In the case of the federal government, it refers to the total amount of income generated from taxes, which remains unfiltered from any deductions. of the organization.
Accordingly, the calculation of each unit given above for segmental reporting is under –
Unit A, B, D, E, F, and G are to be reported as segments as per segmental reporting, and units C and H are not to be reported separately as the total revenue or assets or profit is less than 10% of the total of that area of the organizations as a whole.
Why is Segment Reporting Important?
Segmental reporting is important for the organization, its investors, and the stakeholders in the following way:
- It provides investors the complete details about the units, their profitabilityProfitabilityProfitability refers to a company's ability to generate revenue and maximize profit above its expenditure and operational costs. It is measured using specific ratios such as gross profit margin, EBITDA, and net profit margin. It aids investors in analyzing the company's performance., etc. They can analyze and decide upon the investment in the organization.
- It helps the organization in better decision making as the planning about expansion or diversification is to be done based on the result of the segment.
- It helps the creditors to decide the credit terms based upon the analysis of each segment separately.
- It helps the shareholdersShareholdersA shareholder is an individual or an institution that owns one or more shares of stock in a public or a private corporation and, therefore, are the legal owners of the company. The ownership percentage depends on the number of shares they hold against the company's total shares. to decide whether to retain the shares or to sell the shares.
- It helps management to decide whether to expand the segment or sell off the segment.
- Segmental Reporting gives a better understanding of the financial statementsFinancial StatementsFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels..
- The profit-making and loss-making units can be easily identified with the help of segmental reporting.
- It helps in the optimum utilization of resources and better presentation.
- It helps potential investors in better investment decisions.
- There are many disclosures required in the case of segmental reporting; hence it is a time-consuming process.
- The data presented can be misinterpreted by the investors or creditors.
- Method of reporting Inter-segment transactions are different for each organization.
- The base of the segment is also different as some organization divides the segment based on geographical location, and some organizations divide based on product-wise.
- The common costs are sometimes difficult to allocate.
This has been a guide to Segment Reporting and its Meaning. Here we discuss objectives, examples, and why it is important along with benefits and limitations. You may learn more about financing from the following articles –