In the age of convergence, ICAI has issued series of accounting standards converged with respective IFRSs including Ind AS 108 ‘Operating Segments’. It replaces the prevailing accounting standard on segment reporting AS 17 and aligns with requirements of IFRS 8. The present article makes an endeavor to evaluate the newness and to investigate the potentiality of this new standard for meeting modern needs of the stakeholders. It concludes that, Ind AS 108 not only insists the creativity in accounting but also enables the users to view the different perspective including future prospects of the operating segments through the eye of management. This standard would also ensure accurate, relevant and adequate disclosures of segment information.
Key Words: Segment Reporting, Ind AS 108, Operating Segments, Convergence
In the age of convergence, with the line of other countries India has also very rightly decided to converge her accounting standards with that of the International Accounting Standard Board (IASB). Accordingly, Indian apex standard setting body Institute of Chartered Accountant of India (ICAI) has issued series of accounting standards converged with respective International Financial Reporting Standards (IFRSs) including Ind AS108 ‘Operating Segments’. Subsequently, the Ministry of Corporate Affairs has also notified the much awaited Indian Accounting Standards Rule, 2015 on 16th February, 2015 for implementing these Ind ASs (i.e. converged accounting standards). According to this rule, these Ind AS should be implemented in a phased manner from the accounting period commencing on or after 1st April, 2015 voluntarily and it would be mandatory from the accounting period commencing on or after 1st April, 2016. India can now be claimed that her accounting standards are contemporary and virtually at per with the leading global standards (i.e. IFRSs).
The Ind AS 108 ‘Operating Segments’ replaces the prevailing accounting standard on segment reporting AS 17 and aligns with requirements of IFRS 8. It states that, the enterprise should prepare its segment report on the basis of operating segments which have determined by its key decision makers (i.e. the managerial approach). The main change from the current standard is the introduction of management approach. In the time of issuing IFRS 8, IASB has recognized one of the benefits with this new approach is that, information through the eye of management will allow users to better judge the entity’s operations. As this new approach has been prescribed in new standard (i.e. Ind AS 108) which has already been issued and scheduled to be implemented, so some questions may arises whether this standard should bring any change in reporting practices in India or what extent it is different from existing standard AS 17 and really is it in the line of IFRS 8 or not.
In this backdrop, the present article makes an endeavor to evaluate the newness of the standard in compare to the existing standard AS 17 and also examine the degree of similarity with the IFRS 8. Finally prospective impact on reporting should also be investigated to judge the potentiality to meet the modern needs of the stakeholders.
To address the core objective of the study, the paper has been divided into eight sections. The first section has established theme of the study along with its core objective. A brief account of Ind AS 108 has been discussed in the second section. The third section has highlighted the unique features of it. Section four has made a comparison between AS 17 and Ind AS 108. Section five has identified the distinction between Ind AS 108 and IFRS 8. Sixth section of this paper has explored the prospective impact of it on segment reporting practices in India. Section seven has attempted to evaluate it critically. Finally a logistic conclusion has been offered in the last section.
Ind AS 108 in Short
‘Management Approach’ has been introduced for determining the operating segments and segmental information required to be reported for them. Operating segments are identified on the basis of internal reports used by the chief operating decision maker for allocating resources to the segment and assessing the performance thereof. It is well established fact that this management approach is only way to improve financial reporting as it allows users of financial statements to review the financial statement through the eye of management. This would enable the users to predict the future prospects to some extent which is more useful to the prospective investors. It also helps to reduce the preparation costs and ensure timely completion of the report as these disaggregated information is already used by the internal decision makers.
An entity should disclose information in such a way that the users of financial statements shall able to evaluate
- the nature and financial effects of the business of operations in which it engages; and
- the surrounding economic environment in which it operates.
This standard only shall applicable to that companies which has been notified in the Companies Indian Accounting Standards Rule 2015. If any company prepared its segment report without complying this standard, the information reported in this report should not be treated as segment information even though the company is not bound to follow the standard so far the above rule is concern. If any financial report contained both standalone and consolidated financial statements of the parent, segment information need to be presented only in the consolidated financial statements.
An operating segment is a component of an entity
- that engages in business activities from which it may earn revenues and incur expenses;
- whose operating results are reviewed regularly by the entity’s chief operating decision maker to make decision about its resource to be allocated to the segment and assess its performance; and
- for which discrete financial information is available.
Usually the chief executive officer or chief operating officer or a group of executive directors may jointly recognized as the Chief Operating Decision Maker (CODM). But it is not necessarily decided on basis of their designation rather it should be decided on the basis of the function they perform. The specified functions of the CODM are:
- Allocation of the resources among the segments; and
- Assessment of the performance of these segments and of the entity as a whole.
Reportable segment is that operating segment which meets any of the following Qualitative thresholds:
- Its revenue, from both external customers and inter-segment transfers is 10% or more of the combined revenue, internal and external of all operating segments.
- The absolute amount of its profit or loss is 10% or more of the greater, in absolute amount of
a) The combined reported profit of all operating segments.
b) The combined reported loss of all operating segments.
- Its assets are 10% or more of the combined assets of all operating segments.
Two or more reportable segments can be aggregated, if they meet each of the following aggregation criteria:
- Aggregation is consistent with the core principle;
- The segments have similar economic characteristics; and
- The segments are similar in each of the following respect:
- Nature of the product and services they offer;
- Nature of the production process;
- Types or classes of the customers;
- Methods of distribution;
- Nature of regulatory environment, if applicable.
If the total external revenue reported by operating segments constitutes less than 75% of the entity’s revenue, additional operating segments must be identified as a reportable segment even if they do not meet the quantitative thresholds.
All other operating segments those are falling to meet either the quantitative thresholds or the aggregation criteria, shall be combined and reported as ‘All Others Segments’. For improving the usefulness of the segment report manager by his/her own discretion can report an operating segment additionally even if it does not meet the quantitative thresholds, if they think so.
To improve the comparability, if any reported operating segment in the current period was not meet the quantitative threshold in the last period that require to be restated and if the reported operating segments in the last period fails to meet the quantitative threshold in current period, that can also be reported if management think significant.
Although this standard not specified any maximum number for reported operating segments; but it asked to judge whether the number of reported segments exceeds the practical limit, only when the number reported operating segment more than ten.
An entity should disclose information about its operating segments to enable users of financial report to evaluate the nature and financial effects of the business activities and the economic environment in which it operates. The disclosure requirement of Ind AS 108 are given bellow:
- Factor used to identify reportable segments.
- Types of products and services those are reportable segment provide.
Information about profit or loss, assets and liabilities
- Revenue from external customers.
- Revenue from inter segment transfer.
- Interest revenue and expenses.
- Depreciation, depletion and amortization expenses.
- Income tax expenses and benefit.
- Material items of income and expenses.
- The entities interest in the profit or loss of associates and joint ventures accounted for by the equity method.
- Other significant non-cash items.
Basis of measurement
- The amount of each item shall be measured on the same basis which is used for reporting to the chief operating decision maker.
- Adjustment, elimination and allocation shall be made if they are included in the chief operating decision maker report.
- Segmental revenue with consolidated revenue.
- Segment assets with consolidated assets.
- Segment liabilities with consolidated liabilities.
- Other material items of the reported segment with that of the enterprise as a whole.
In addition, there are some prescribed entity wise disclosures that are required even when an entity has only one reportable segment. If the information necessary for this analysis is not available and the cost for develop it would be excessive, that fact must be disclosed.
- Revenue from external customers for each products and services.
- Revenue from external customers of domestic country and of forging country.
- Carrying amount of non-current assets by geographical area irrespective of the identification of operating segments.
- The information about major customers and the total revenue from each such customer but need not to disclose the identity of such major customers or the amount of revenues that each operating segment earns from that customer.
Unique Features of Ind AS 108
This standard requires to report financial and descriptive information about its reportable segments. Reportable segments would be operating segments or aggregations of operating segments that meet specified criteria. Generally, financial information would require to be reported on the basis that is used internally for evaluating operating segments performance and allocating resources to operating segments. It extends the scope of segment reporting by including entities whose equities or debt securities are publicly traded and entities that are in process of issuing the securities in public securities markets. It requires the information about the components of the entity that management used to make decisions about operating matters and assesses its performance. The reconciliation of total reportable segment revenue, total profit or loss, total assets and other amounts disclosed for reportable segments to corresponding amounts in the entities financial statements have to disclose. An explanation of how segment profit or loss and segment assets are measure is to be mention in the financial statements for each reportable segment. The entity have to report information about its major customers and about the countries in which it earns revenue and holds assets, regardless of whether that information is used by management in operating decision making. Finally, it also requires the descriptive information about the way by which operating segments where determined.
Comparison between AS 17 and Ind AS 108
According to the management approach of Ind AS 108 operating segment is identified on the basis of the internal report which regularly reviewed by the CODM but AS 17 used risk return approach with the entity’s system of internal financial reporting to key management personal to identify the primary or secondary segments.
Although the approaches to identification of the segments are different each other but, adoption of Ind AS 108 may or may not change the entity’s segments. If under AS 17 an entity identified its primary segments on the basis of reports provided to the person whom Ind AS 108 regards as the chief operating decision maker (CODM), those might become the operating segments for the purpose of Ind AS 108.
Ind AS 108 allows to use the same basis to measure information as it used to prepare the internal report for CODM, even if this report is not prepared in accordance with the Ind AS accounting policies. As a result, there will be diversity in the amount reported in segment report with the corresponding amount reported in the entity’s primary financial statement. But AS 17 demanded the basis of measurement would be in conformity with the accounting policies adopted for preparing and presenting the financial statements.
Unlike AS 17, Ind AS 108 does not define terms such as “segments revenue”, “segment profit or loss”, “segment assets” and “segment liabilities”. As a result, entities will have more discretion in determining what will be included in segment profit or loss under Ind AS 108. This also leads to diversify in reporting practices among the various entities.
According to Ind-AS108, an entity must disclose an explanation of how it has determined its reportable operating segments and the basis on which the disclosed amounts have been measured. But under AS 17 these information have not required to disclose.
AS 17 does not allowed to aggregate two or more segments whereas Ind AS 108 allows to aggregate them subject to some specified aggregation criteria.
AS 17 has guided to calculate the segment revenue/expenses without considering the interest revenue/expenses if any, but Ind AS 108 asked to report the interest expenses and revenue for each reportable segments separately.
Under Ind AS 108, disclosures are required when an entity receives more than 10% of its revenue from a single customer. In this regards the entity must disclose this fact, the total amount of revenues earned from each such customer and the name of the operating segments that reports the revenue. These disclosures have not required by AS 17.
AS 17 has released the single segment entity from the preparation of the segment report but, Ind AS 108 requires disclosure about that entity’s products and services, geographical areas and major customers even if it has only one reportable segment.
Distinctions between Ind AS 108 and IFRS 8
In the convergence project ICAI issued Ind AS 108 ‘Operating Segments’ converged with IFRS 8 for replacing AS 17 ‘Segment Reporting’ to reduce the diversity in international requirements. ICAI founds that the IFRS 8 provides more useful information than that of AS 17. Therefore, ICAI had issued Ind AS 108 for adopting the requirements of IFRS 8 through removing the diversity between the IFRS 8 and AS 17, excepting some terminologies and some minor differences which are given below:
- Transitional provisions have not given in the Ind AS 108 but IFRS 8 specifically mention that particular provision. Although all transitional provisions have been included in Ind AS 101 corresponding to IFRS 1.
- Several different terminology used in existing law like ‘Balance Sheet’, statement of profit or loss instead of ‘Statement of Financial Position’ and ‘statement of Comprehensive Income’ respectively.
Prospective Impact of Ind AS 108 on Segment Reporting Practices in India
- It is likely that in many cases the identified segment will be the same even after the implementation of Ind AS 108 as risk-return is the main thing behind any economic decision. That means if the CODM practically taken this risk-return approach for taking their decisions, then obviously the identified operating segments should be the same as before.
- There may be diversity between the amounts disclosed in the segment report with those reflected in the entity’s primary financial statement as Ind AS allows to measure the segment information in the line with the internal report.
- Diversity in reporting again may be increased due to non-defining the terms like segment Revenue, Segment Expenses, Segment Result, Segment Assets and Segment Liabilities.
- Although it allows to use the same basis of measurement, which has used for internal report, to measure the segment information; but to maintaining the understandability, it has asked to disclose an explanation of how the segment information has measured and also to give a reconciliation for these information with that of the entity.
- Although Ind AS 108 allows to identify the operating segments based on internal report and not prescribed to identify the segment as business segment or geographical segment but it has asked to give descriptive information about how it has determined its operating segments.
- Additional line items such as interest revenue and interest expenses are required to disclose if such information provided in internal report to the CODM.
- In contrast to AS 17, Ind AS 108 required to disclose some specified information regarding the customer who contribute 10% or more of the entity’s total revenue, regardless of whether that information is used by management in their operating decision making report.
- Ind AS 108 requires the information about the production or services and the countries in which it earns revenue and holds assets which leads to a detail reporting.
Several arguments against the management approach have been put forwarded. But question may arise on the validity of such criticisms against this management approach. So, an endeavor is now be made to examine the validity of these major criticisms. Ind AS 108 introduces the management approach to segment reporting in India. This approach will unfamiliar to many companies and managers will have to think carefully about the implication of the existing management structure. Due to this management discretion, the comparability of information across entities will be lost. It does not define measurement of segment revenue, expenses, result, assets and liabilities. That’s why the management can measure the various segment disclosures in his/her own way which may not be consistent enough. There is less direct focus on products or geographical factors which are most useful segment information for investors, unless they are used for internal reporting; this is also a great cause of diversity in reporting.
The information available internally in companies is often more informative than the information reported in the financial reports. So, when the segment reporting should be based on internal reporting practice that leads to high competitive disadvantages. It will be harder to justify disclosing segment information particularly for the single segment entities. When entity use their own measures in the segment reporting might be hard to understand and it leads to deprive the overall quality of the information.
A risk under this management approach is that, companies may be continued to misuse the aggregation criteria to give less detail segment disclosures. As a results the disclosed segment information may be insufficient to the users for taking any economic decision.
But these forgoing criticisms may be countered if we consider some unique prosperity of this new approach. The Ind AS 108 focuses on the information that management believe is important and should therefore provide more meaningful segment information. The standard has not specified any defined measure of profit and loss but allowed the use of non-Ind AS compliant data, if this is used in internal reports; this would lead to less comparative disadvantages. It is exactly in the line of IFRS 8 for ensuring the global harmonization, so the reporting entities do not have to prepare more than one set of information for different regions. The analytical value of segment information will be greater as it is consistent with internal management report of the entity. Segment disclosure following the management approach in financial reports does not result in significant extra efforts, time and cost as it has already used in the internal reports. The presentation of segment information through the eye of management will be useful to investors, creditors and other users of financial statements, as it will highlight the risk and opportunity measures in a timely basis. The management approach provides an additional insight about the company to the financial statements users. However, it hampers the comparability criteria of financial statements among the entity in some extent, but it insists the unique and creative reporting, that’s why this might be given less significance. Like any other new things, although the management may has to spend some extra efforts for implementing this new approach in segment reporting but it ensures a series of promising prospects.
In this respect, it is quite important to mention the observations of IASB regarding the management approach. The IASB believes that adopting the management approach will improve financial reporting. First, it allows users of financial statements to review the operation through the eye of management. Secondly, as the information is already used internally by management, there are few costs for preparers and the information will be available on a timely basis. This means that the internal reporting of segment information might be extended beyond the current requirements. Finally, according to the chairman of IASB Sir David Tweedie “…. It therefore, gives users of financial statements the opportunity to query how the entity is controlled by its senior decision maker. It does this by enabling entities to provide timely segment information at little extra cost…. ”
Generally accepted principles allow management wide latitude in the choice of accounting policies. Given adopted accounting principles, management faces discretionary accounting decisions, which are heavily oriented to a judgment process of determining amounts, rates and timing. Discretion in particular is recognized in the translation of the management accounts (internal report) to the financial accounts (annual reports). In this age of convergence, the introduction of Ind AS 108 will be welcome particularly for realizing the advantages such as cost of capital, saving in cost of preparation of financial statements and increasing opportunities for investors or analyst. Moreover, with a view to promoting greater convergence, like other countries, India’s apex standard setting body ICAI has rightly revised of its early standards on segment reporting AS 17 and issued Ind AS 108 at par with the IASB requirements. The fundamental change, using the management approach should enable the entity to gather information in a relatively easier manner as those information should ideally be available internally. While the reporting under Ind AS 108 insists the creativity in accounting; at the same time it also enables the users to view the different perspective including future prospects of the operating segments through the eye of management. With this modern approach this standard would ensure accurate, relevant and adequate disclosures of segment information.
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REPORTS & STANDARDS
- International Financial Reporting Standards (2007), London: IASCF ISBN978-1-905590-26-1.
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- International Accounting Standard Board, (2006) IFRS 8: Operating Segments.
Dr. Ram Prahlad Choudhary
Assistant Professor, Department of Commerce,
University of Calcutta, E-mail: [email protected] Mobile No: 9830408670
Mr. Satyajit Ghorai
Assistant Professor, Department of Commerce, Jhargram Raj College
Dr. Ram Prahlad Choudhary
Assistant Professor, Department of Commerce, University of Calcutta