Understanding Accounting Standard 17: Segment Reporting Explained

Introduction

Accounting Standard 17 (AS 17) outlines the requirements for enterprises to disclose financial information related to their operating and geographical segments in their financial statements. This standard emphasizes the importance of transparency and clarity concerning an enterprise’s business activities and economic context.

Objective

The objectives of AS 17 are to:

• Understand the performance of the enterprise.
• Assess the risks and returns associated with the enterprise.
• Facilitate informed judgments regarding the enterprise's financial health.

Scope

• AS 17 must be applied when presenting general-purpose financial statements.
• An enterprise is required to fully implement this standard, avoiding selective application.
• If a financial report includes both consolidated and separate financial statements of the parent entity, segment information must be reported based solely on the consolidated financial statements.

Definitions of Terms Used in AS 17

Business Segment

A business segment is a distinguishable component of an enterprise that provides products or services, subject to unique risks and returns distinct from other segments. Key attributes include:

1. Identification based on the organizational structure and internal financial reporting.
2. Unique risks and returns distinguishable from other segments, warranting separate reporting.
3. Regular management reviews for assessing performance and resource allocation, with financial information available for each segment.
4. The differentiation between primary segments (by product type, geographical area, or customer type) and secondary segments (providing additional operational insights, such as major customers).

Geographical Segment

A geographical segment is a component of an enterprise that operates in a defined economic environment, presenting specific risks and returns different from other segments. Characteristics include:

1. Activities based in a defined geographical area.
2. Operational independence regarding economic factors, regulations, competition, and customer demographics.
3. Financial information provided separately for assessing performance in various geographical areas.

Reportable Segment

A reportable segment is either a business or geographical segment that requires disclosure under AS 17.

Segment Revenue

Defined as:

1. Revenue directly attributable to the segment.
2. Revenue allocable to the segment on a reasonable basis.
3. Revenue from transactions with other segments.

Exclusions from segment revenue include:

• Extraordinary items per AS 5.
• Interest or dividend income, unless the segment's primary operations are financial in nature.
• Gains on the sale of investments unless primarily financial.

Segment Expenses

Segment expenses encompass costs specific to a segment, which may include:

• Direct production costs of goods or services.
• Promotional and selling expenses.
• Operational costs such as rent, utilities, and salaries.
• Specific allocations of these expenses to the segment.

AS 17 mandates separate reporting of segment expenses to enhance transparency regarding profitability and performance.

Segment Assets

Operating assets employed by a segment, directly attributable to or reasonably allocable to the segment. Exclusions include:

• Income tax assets.
• General enterprise or head office assets.

Segment Liabilities

Liabilities arising from a segment’s operating activities, either directly attributable or reasonably allocable. Excluded items include:

• Income tax liabilities.
• Financing-related liabilities.

Allocation Process

The allocation process involves several steps:

1. Identify segments based on the internal structure and reporting.
2. Allocate revenue based on amounts directly attributable and reasonably allocable to segments.
3. Allocate expenses similarly, focusing on direct attributions.
4. Assign assets and liabilities to segments based on identifiable attributes.
5. Common segment costs should be allocated using reasonable methods reflecting business realities.
6. Extensive disclosures regarding segment revenue, results, assets, and liabilities are required to inform financial statement users.
7. AS 17 ensures that allocations reflect the economic realities of segment operations.

Primary and Secondary Segment Reporting

The choice of reporting format (primary or secondary) is determined by the dominant source of risks and returns:

1. Primary Reporting requires classification of segment revenue and results, segment assets, liabilities, and acquisition costs.
2. Secondary Reporting requires information on segment revenue by geographical area, asset values, and acquisition costs if certain thresholds are met.

Identifying Reportable Segments (Quantitative Methods)

A segment qualifies as reportable if:

• Its revenue constitutes 10% or more of total segment revenue.
• Its segment result (profit or loss) is significant compared to combined results of all segments.
• Its segment assets are 10% or more of total segment assets.

Management may designate smaller segments as reportable at their discretion, even if they don’t meet quantitative thresholds. All segments should collectively account for at least 75% of total enterprise revenue or additional reportable segments must be identified.

Conclusion

AS 17 is vital for stakeholders to evaluate an enterprise’s performance, risks, and returns across different business and geographical segments. By delivering comprehensive disclosures regarding each segment's finances, AS 17 fosters transparency and supports informed decision-making.