Accounting Alert

This Accounting Alert is issued to provide an overview of Philippine Financial Reporting Standards (PFRS) 8, Operating Segments, to provide preparers and users of financial statements and those charged with governance of reporting entities some key implementation issues and interpretational guidance in certain problematic areas of PFRS 8.

Overview

The balance between presenting enough information to users of the financial statements and presenting too much information so that the overall picture and usefulness of what is being disclosed is not masked by detail is a fine one.  For some large or complex entities, the number of operating segments identified when applying PFRS 8, Operating Segments, may be excessive and the benefit of disclosing segment information for each separate segment may be insufficient to justify the cost.

Quantitative Threshold for Reportable Segments

Once the entity’s operating segments have been identified, it must then determine which operating segments are reportable. Reportable segments are those operating segments, or groups of operating segments, that meet the quantitative thresholds for separate disclosure. Quantitative thresholds are included in PFRS 8 so as to limit the disclosures to a reasonable level.

The thresholds

PFRS 8 provides guidance on quantitative thresholds for an entity as follows:

• Its reported revenue, including both sales to external customers and intersegment sales or transfers, is 10 percent or more of the combined revenue, internal and external, of all operating segments.
• The absolute amount of its reported profit or loss is 10 percent or more of the greater, in absolute amount, of
• the combined reported profit of all operating segments that did not report a loss, and
• the combined reported loss of all operating segments that reported a loss.
• Its assets are 10 percent or more of the combined assets of all operating segments.

The amounts considered when looking at the thresholds are the amounts reported to the CODM, before elimination of any intersegment transactions. If any one of the three criteria noted above is present, disclosure, either individually or in aggregate, will be required.

Minimum Number of Reportable Segments - the 75% Revenue Test

PFRS 8 does not explicitly require a minimum number of reportable segments, but it does contain a requirement that may result in the identification of additional reportable segments after performing the quantitative threshold tests.

External revenue of reportable segments must constitute at least 75% of total consolidated revenue. Consolidated revenue for the purpose of this comparison would, by definition, mean external revenue, as inter-segment revenue would be eliminated on consolidation. Identification of additional reportable segments is not required if this minimum threshold is met.

If this minimum external revenue threshold is not met, additional operating segments or aggregated operating segments must be identified as reportable segments until at least 75% of the entity’s revenue is included in reportable segments. PFRS 8 does not prescribe which additional segments should be included to reach the 75% threshold. Consequently, entities are not required to identify the additional reportable segments in order of size.

However, we believe entities should consider both quantitative and qualitative factors when determining which additional operating segments should be disclosed. In making this assessment, entities should consider the disclosure objectives of the Standard.

Reporting segments that do not meet the reportable thresholds

An entity may identify one or more operating segments that do not exceed any of the quantitative thresholds for reportable segments but management believes that information about the segment(s) would be useful to users of the financial statements.  For example, there may be a start-up segment that is expected to exceed the thresholds in the future and make a significant contribution to the future success of the entity. An entity may therefore choose to consider such a segment as reportable and so disclose it separately.

Combining reportable segments

Generally, reportable segments cannot be combined. In large and diverse groups, however, the CODM may regularly review information about every subsidiary. If the subsidiaries have different economic characteristics, then aggregation may not be permitted by PFRS 8. This may result in a large number of reportable segments.

PFRS 8 notes there may be a practical limit to the number of reportable segments an entity separately discloses beyond which segment information may become too detailed. PFRS 8 does not set a precise limit but does suggest if the number of reportable segments increases above ten, the entity should consider whether a practical limit has been reached.

PFRS 8 does not provide any guidance as to the actions to be taken if a practical limit has been reached. In our view, an entity should exercise caution in aggregating segments in these circumstances. If aggregation is needed at this stage, only segments that firstly have similar economic characteristics, and secondly have a majority of the criteria listed in PFRS 8 should be aggregated. In addition, the disclosure of the factors used to identify the entity’s reportable segments should explain the reportable segments formed as a result of this aggregation process only share a majority of the criteria for aggregation but have been combined in order to reduce the number of reportable segments to a practical level. 

The Accounting alert also discussed several practical application issues, a flowchart of the aggregation process, and other relevant information. 

See attached Accounting Alert for further details.