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CHAPTER 8
SEGMENT AND INTERIM REPORTING
Chapter Outline
I. FASB Accounting Standards Codification Topic 280, Segment Reporting (FASB ASC 280),
provides current guidance on segment reporting.
A. ASC 280 follows a management approach in which segments are based on the way
that management disaggregates the enterprise for making operating decisions; these
are referred to as operating segments.
B. Operating segments are components of an enterprise which meet three criteria.
1. Engage in business activities and earn revenues and incur expenses.
2. Operating results are regularly reviewed by the chief operating decision-maker to
assess performance and make resource allocation decisions.
3. Discrete financial information is available from the internal reporting system.
C. Once operating segments have been identified, three quantitative threshold tests are
then applied to identify segments of sufficient size to warrant separate disclosure. Any
segment meeting even one of these tests is separately reportable.
1. Revenue testsegment revenues, both external and intersegment, are 10 percent
or more of the combined revenue, external and intersegment, of all reported
operating segments.
2. Profit or loss testsegment profit or loss is 10 percent or more of the greater (in
absolute terms) of the combined reported profit of all profitable segments or the
combined reported loss of all segments incurring a loss.
3. Asset testsegment assets are 10 percent or more of the combined assets of all
operating segments.
D. Several general restrictions on the presentation of operating segments exist.
1. Separately reported operating segments must generate at least 75 percent of total
(consolidated) sales made by the company to outside parties.
2. Ten is suggested as the maximum number of operating segments that should be
separately disclosed. If more than ten are reportable, the company should consider
combining some operating segments.
E. Information to be disclosed by operating segment.
1. General information about the operating segment including factors used to identify
operating segments and the types of products and services from which each
segment derives its revenues.
2. Segment profit or loss and the following components of profit or loss.
a. Revenues from external customers.
b. Revenues from transactions with other operating segments.
c. Interest revenue and interest expense (reported separately).
d. Depreciation, depletion, and amortization expense.
e. Other significant noncash items included in segment profit or loss.
f. Unusual items and extraordinary items.
g. Income tax expense or benefit.
3. Total segment assets and the following related items.
a. Investment in equity method affiliates.
b. Expenditures for additions to long-lived assets.
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Chapter 08 - Segment and Interim Reporting
III. International Financial Reporting Standards (IFRS) also provide guidance with respect to
segment reporting.
A. IFRS 8, Operating Segments, is based on U.S. GAAP. Major differences between IFRS 8
and U.S. GAAP are:
1. IFRS 8 requires disclosure of total assets and total liabilities by operating segment if
these are regularly reported to the chief operating decision maker. U.S. GAAP requires
disclosure of segment assets but does not require disclosure of segment liabilities.
2. IFRS 8 specifically includes intangibles in the scope of non-current assets to be
disclosed by geographic area. Authoritative accounting literature (FASB ASC) indicates
that long-lived assets to be disclosed by geographic area excludes intangibles.
3. U.S. GAAP requires an entity with a matrix form of organization to determine operating
segments based on products and services. IFRS 8 allows such an entity to determine
operating segments based on either products and services or geographic areas.
IV. To provide investors and creditors with more timely information than is provided by an annual
report, the U.S. Securities and Exchange Commission (SEC) requires publicly traded
companies to provide financial statements on an interim (quarterly) basis.
A. Quarterly statements need not be audited.
V. FASB Accounting Standards Codification Topic 270, Interim Reporting (FASB ASC 270) requires
companies to treat interim periods as integral parts of an annual period rather than as discrete
accounting periods in their own right.
A. Generally, interim statements should be prepared following the same accounting principles
and practices used in the annual statements.
B. However, several items require special treatment for the interim statements to better reflect
the expected annual amounts.
1. Revenues are recognized for interim periods in the same way as they are on an annual
basis.
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Chapter 08 - Segment and Interim Reporting
2. Interim statements should not reflect the effect of a LIFO liquidation if the units of
beginning inventory sold are expected to be replaced by year-end; inventory should not
be written down to a lower market value if the market value is expected to recover
above the inventory's cost by year-end; and planned variances under a standard cost
system should not be reflected in interim statements if they are expected to be
absorbed by year-end.
3. Costs incurred in one interim period but associated with activities or benefits of multiple
interim periods (such as advertising and executive bonuses) should be allocated across
interim periods on a reasonable basis through accruals and deferrals.
4. The materiality of an extraordinary item should be assessed by comparing its amount
against the expected income for the full year.
5. Income tax related to ordinary income should be computed at an estimated annual
effective tax rate; income tax related to an extraordinary item should be calculated at
the margin.
VI. FASB ASC 270 provides guidance for reporting changes in accounting principles made in
interim periods.
A. Unless impracticable to do so, an accounting change is applied retrospectively, that is, prior
period financial statements are restated as if the new accounting principle had always been
used.
B. When an accounting change is made in other than the first interim period, information for
the interim periods prior to the change should be reported by retrospectively applying the
new accounting principle to these pre-change interim periods.
C. If retrospective application of the new accounting principle to interim periods prior to the
change of change is impracticable, the accounting change is not allowed to be made in an
interim period but may be made only at the beginning of the next fiscal year.
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Chapter 08 - Segment and Interim Reporting
VII. Many companies provide summary financial statements and notes in their interim reports.
A. U.S. GAAP imposes minimum disclosure requirements for interim reports.
1. Sales, income tax, extraordinary items, cumulative effect of accounting change, and net
income.
2. Earnings per share.
3. Seasonal revenues and expenses.
4. Significant changes in estimates or provisions for income taxes.
5. Disposal of a business segment and unusual items.
6. Contingent items.
7. Changes in accounting principles or estimates.
8. Significant changes in financial position.
B. Disclosure of balance sheet and cash flow information is encouraged but not required. If
not included in the interim report, significant changes in the following must be disclosed:
1. Cash and cash equivalents.
2. Net working capital.
3. Long-term liabilities.
4. Stockholders' equity.
VIII. Four items of information must also be disclosed by operating segment in interim financial
statements: revenues from external customers, intersegment revenues, segment profit or loss,
and, if there has been a material change since the annual report, total assets.
IX. IAS 34, Interim Financial Reporting, provides guidance in IFRS with respect to interim financial
statements.
A. Unlike U.S. GAAP, IAS 34 requires each interim period to be treated as a discrete
accounting period in terms of the amounts to be recognized. As a result, expenses that are
incurred in one quarter are expensed in that quarter even though the expenditure benefits
the entire year. And there is no accrual in earlier quarters for expenses expected to be
incurred later in the year.
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Chapter 08 - Segment and Interim Reporting
Information is material if omitting it or misstating it could influence decisions that users make on
the basis of the financial information of a specific reporting entity.Consequently, the Board
cannot specify a uniform quantitative threshold for materiality or predetermine what could be
material in a particular situation.
Further, ASC 250-10-S99 reminds companies that both quantitative and qualitative factors should be
considered in determining materiality. With respect to segment reporting, ASC 250-10-S99 states:
The materiality of a misstatement may turn on where it appears in the financial statements. For
example, a misstatement may involve a segment of the registrant's operations. In that instance,
in assessing materiality of a misstatement to the financial statements taken as a whole,
registrants and their auditors should consider not only the size of the misstatement but also the
significance of the segment information to the financial statements taken as a whole. A
misstatement of the revenue and operating profit of a relatively small segment that is
represented by management to be important to the future profitability of the entity" is more likely
to be material to investors than a misstatement in a segment that management has not identified
as especially important. In assessing the materiality of misstatements in segment information -
as with materiality generally - situations may arise in practice where the auditor will conclude that
a matter relating to segment information is qualitatively material even though, in his or her
judgment, it is quantitatively immaterial to the financial statements taken as a whole.
Thus, in addition to quantitative factors, such as the relative percentage of total revenues generated
in an individual foreign country, companies should consider qualitative factors as well. Qualitative
factors that might be relevant in assessing the materiality of a specific foreign country include: the
growth prospects in that country and the level of risk associated with doing business in that country.
There are competing arguments for the FASB establishing a significance test for determining
material foreign countries. On one hand, such a quantitative materiality test flies in the face of the
warning provided in ASC 250-10-S99 and SFAC 8. For example, a 10% of total revenue or long-
lived asset test might give companies an excuse to avoid reporting individual countries that would
be material for qualitative reasons. Assume that from one year to the next a company increases its
revenues in China from 2% of total revenues to 6% of total revenues. Although 6% of total revenues
would not meet a 10% test, the relatively large increase in total revenues generated in China could
be material in that it could affect an investors assessment of the companys future prospects. This
company might be reluctant to disclose information about its revenues in China because of potential
competitive harm.
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Chapter 08 - Segment and Interim Reporting
On the other hand, one could argue that if the FASB were to establish a relatively low disclosure
threshold of, say, 5% of total revenues, that many countries that financial statement users would
deem to be of significance would be disclosed regardless of whether they are deemed material for
quantitative or for qualitative reasons. However, it could also result in disclosures being provided
that are not material, i.e., capable of influencing decisions made by financial statement users.
In any event, establishing a materiality threshold would be inconsistent with the FASBs conclusion in
SFAC 8 that it cannot predetermine what could be material in a particular situation.
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Chapter 08 - Segment and Interim Reporting
Answers to Questions
1. Consolidation presents the account balances of a business combination without regard for the
individual component units that comprise the organization. Thus, no distinction can be drawn as
to the financial position or operations of the separate enterprises that form the corporate
structure. Without a method by which to identify the various individual operations, financial
analysis cannot be well refined.
2. The word disaggregated refers to a whole that has been broken apart. Thus, disaggregated
financial information is the data of a reporting unit that has been broken down into components
so that the separate parts can be identified and studied.
3. According to the FASB, the objective of segment reporting is to provide information to help
users of financial statements:
a. better understand the enterprises performance,
b. better assess its prospects for future net cash flows, and
c. make more informed judgments about the enterprise as a whole.
4. Defining segments on the basis of a companys organizational structure removes much of the
flexibility and subjectivity associated with defining industry segments under prior standards. In
addition, the incremental cost of providing segment information externally should be minimal
because that information is already generated for internal use. Analysts should benefit from
this approach because it reflects the risks and opportunities considered important by
management and allows the analyst to see the company the way it is viewed by management.
This should enhance the analysts ability to predict management actions that can significantly
affect future cash flows.
6. Two criteria must be considered in this situation to determine an enterprises operating segment.
If more than one set of organizational units exists, but there is only one set for which segment
managers are held responsible, that set constitutes the operating segments. If segment
managers exist for two or more overlapping sets of organizational units, the organizational units
based on products and services are defined as the operating segments.
7. The Revenue Test. An operating segment is separately reportable if its total revenues amount
to 10 percent or more of the combined total revenues of all operating segments.
The Profit or Loss Test. An operating segment is separately reportable if its profit or loss is 10
percent or more of the greater (in absolute terms) of the combined profits of all profitable
segments or the combined losses of all segments reporting a loss.
The Asset Test. An operating segment is separately reportable if its assets comprise 10 percent
or more of combined assets of all operating segments.
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Chapter 08 - Segment and Interim Reporting
9. If operating segments are not based upon products or services, or a company has only one
operating segment, then revenues from sales to unaffiliated customers must be disclosed for
each of the companys products and services.
10. Information must be provided for the domestic country, for all foreign countries in which the
company generates revenue or holds assets, and for each foreign country in which the
company generates a material amount of revenues or has a material amount of assets.
11. Two items of information must be reported for the domestic country, for all foreign countries in
total, and for each foreign country in which the company has material operations: (1) revenues
from external customers, and (2) long-lived assets.
12. The minimum number of countries to be reported separately is one: the domestic country. If no
single foreign country is material, then all foreign countries would be combined and two lines of
information would be reported; one for the United States and one for all foreign countries. U.S.
GAAP does not provide any guidelines related to the maximum number of countries to be
reported.
13. The existence of a major customer and the related amount of revenues must be disclosed when
sales to a single customer are 10 percent or more of consolidated sales.
14. U.S. GAAP requires disclosure of a measure of segment assets, but does not require disclosure
of a measure of segment liabilities. IFRS 8 requires disclosure of total assets and total liabilities
by segment if such a measure is regularly provided to the chief operating decision maker
15. U.S. publicly traded companies are required to prepare quarterly financial reports to provide
investors and creditors with relevant information on a more timely basis than is provided by an
annual report.
16. Companies are required to follow an "integral" approach in which each interim period is
considered to be an integral part of an annual accounting period, rather than a "discrete"
accounting period in its own right. For several items, the integral approach requires deviation
from the general rule that the same accounting principles used in preparing annual statements
should also be used in preparing interim statements.
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Chapter 08 - Segment and Interim Reporting
17. Cost-of-goods-sold should be adjusted in the interim period to reflect the cost at which the
liquidated inventory is expected to be replaced, thus avoiding the effect of the LIFO liquidation
on interim period income.
18. Income tax expense related to interim period income is determined by estimating the effective
tax rate for the entire year. That rate is then applied to the cumulative pre-tax income earned to
date to determine the cumulative income tax to be recognized to date. The amount of income
tax recognized in the current interim period is the difference between the cumulative income tax
to be recognized to date and the income tax recognized in prior interim periods.
19. When an accounting change occurs in other than the first interim period, information for the pre-
change interim periods should be reported based on retrospective application of the new
accounting principle. If retrospective application of the new accounting principle to pre-change
interim periods is not practicable, the accounting change may be made only at the beginning of
the next fiscal year.
21. Four items of segment information are required to be included in interim reports: revenues from
external customers, intersegment revenues, segment profit or loss, and total assets if there has
been a material change in assets from the last annual report.
22. Under IAS 34, an annual bonus paid in the fourth quarter of the year would be recognized fully
in that quarter. There would be no accrual of an estimated bonus expense in the first three
quarters of the year. Under U.S. GAAP, the annual bonus would be estimated at the beginning
of the year and a portion of the estimated bonus would be accrued as expense in each of the
first three quarters.
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Chapter 08 - Segment and Interim Reporting
Answers to Problems
1. D
2. C
3. A
4. C
5. B
6. D
7. C
8. A
9. B
10. B
11. A
12. C
13. C With regard to major customers, U.S. GAAP (FASB ASC 280) only requires
disclosure of the total amount of revenues from each such customer and the
identity of the segment or segments reporting the revenues.
14. D
15. D
16. A
17. C
18. D
19. C If there has been a material change from the last annual report, total assets,
but not individual assets, for each operating segment must be disclosed.
20. B
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Chapter 08 - Segment and Interim Reporting
21. C (Determine quantitative threshold under revenue test for reportable segments)
Total operating losses of $1,020,000 (K and M) are larger than total operating
profits of $770,000. Thus, based on the 10 percent criterion, any segment with
a profit or loss of $102,000 or more must be separately disclosed. K, O, and P
do not meet that standard while L, M, and N do.
Revenue Test
Combined segment revenues $32,750,000
10% criterion x 10%
Minimum $ 3,275,000
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Chapter 08 - Segment and Interim Reporting
24. (continued)
Asset Test
Combined segment assets $67,500,000
10% criterion x 10%
Minimum $ 6,750,000
25. D
31. C (Journal entry for property tax expense recognized in interim period)
32. A (Determine COGS in interim period under LIFO with LIFO liquidation)
33. C
5,000 units x $80 = $400,000
300 units x $82 = 24,600
5,300 units $424,600
34. (10 minutes) (Apply the Profit or Loss Test to Determine Reportable Operating
Segments)
Any segment with an absolute amount of profit or loss greater than or equal to
$78,000 (10% x $780,000) is separately reportable. Based on this test, each of the
four segments must be reported separately.
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Chapter 08 - Segment and Interim Reporting
35. (25 minutes) (Apply the Three Tests Necessary to Determine Reportable
Operating Segments)
The plastics, metals, paper, and finance segments meet at least one of the three
tests and therefore are reportable.
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Chapter 08 - Segment and Interim Reporting
36. (20 minutes) (A Variety of Computational Questions about Operating Segment and
Major Customer Testing)
a. Total revenues for Fairfield (including intersegment revenues) amount to
$4,200,000. Minimum revenues for required disclosure are 10% or $420,000.
b. Disclosure of operating segments is considered adequate only if the
separately reported segments have sales to unaffiliated customers that
comprise 75% or more of total consolidated sales. In this situation that
requirement is met. Red, Blue, and Green have total sales to outsiders of
$3,137,000 (or 86%) of total consolidated sales of $3,666,000. Thus, disclosure
of these three segments would be adequate.
c. Major customer disclosure is based on a level of sales to unaffiliated
customers of at least 10% or, for Fairfield, $366,600 ($3,666,000 x 10%).
d. This test is based on the greater (in absolute terms) of profits or losses. In
this problem, the total profit of Red, Blue, Green, and White ($1,971,000) is
greater than the total loss of Pink and Black ($316,000). Therefore, any
segment with a profit or loss of $197,100 or more (10% x $1,971,000) is
reportable. Using this standard, Red, Blue, Black, and White are of significant
size.
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Chapter 08 - Segment and Interim Reporting
37. (25 minutes) (Apply the three tests necessary to determine reportable operating
segments and determine whether a sufficient number of segments is reported)
This test is based on the greater (in absolute amount) of total profit from
profitable segments or total loss from segments with a loss. In this case, any
segment with profit or loss greater than or equal to $29,200 (10% x $292,000) is
separately reportable.
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Chapter 08 - Segment and Interim Reporting
37. (continued)
Four of Masons segments (computers, maps, travel, and finance) meet at least
one of the tests carried out above. To determine whether a sufficient number
of segments is being reported, revenues from unaffiliated parties for these four
segments must comprise at least 75% of total consolidated revenues.
Consolidated revenues (sales to outside parties and interest income-external)
for the company amount to $1,644. These four segments do make up over 75%
(actually $1,463 or 89%) of this total. Therefore, this company is presenting
disaggregated information for enough of its segments.
None of the individual foreign countries meets either the revenue or long-lived
asset materiality test, so no foreign country must be reported separately.
However, information must be presented for the United States separately and
for all foreign countries combined.
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Chapter 08 - Segment and Interim Reporting
39. (20 minutes) (Allocate costs incurred in one quarter that benefit the entire year
and determine income tax expense
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Chapter 08 - Segment and Interim Reporting
39. (continued)
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Chapter 08 - Segment and Interim Reporting
40. (15 minutes) (Treatment of accounting change made in other than first interim
period)
2014 2015
Net income in the second quarter of 2015 is $4,560 [$20,000 9,000 3,400 =
$7,600 3,040 (40%) = $4,560].
The accounting change is reflected in the second quarter of 2015, with year-to-
date information, and comparative information for similar periods in 2014 as
follows:
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Chapter 08 - Segment and Interim Reporting
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Chapter 08 - Segment and Interim Reporting
This assignment requires the student to select a company and find the note on
operating segments in that companys annual report. The responses to this
assignment will depend upon the company selected by the student for analysis.
This assignment requires students to select a company, find the most recent
quarterly report for that company, and then determine whether the company
provides the minimum disclosure required as listed in the text. The responses
to this assignment will depend upon the company selected by the student for
analysis.
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Chapter 08 - Segment and Interim Reporting
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Chapter 08 - Segment and Interim Reporting
This assignment requires students to find the note on geographic areas in each
company's annual report and then prepare a report describing the comparability
of this information. In preparing this assignment, students will see the different
formats used by companies in providing this information, and the different levels
of detail on geographic areas provided. The comparability of this information will
change depending upon the most recent annual report available on the
companys website. The following comparison based upon the 2011 annual
reports represents the type of analysis students might perform in solving this
assignment.
The only geographic area that can be directly compared across these four
pharmaceutical companies is the United States. Bristol-Myers Squibb provides
somewhat more detailed information than the other companies. Only Eli Lilly and
Merck report an individual country (Japan) other than the U.S. Issues that could
be discussed include different quantitative thresholds used by companies in
determining what is a material country, and the fact that disclosure of
geographic areas aggregated above the individual country level (e.g., E/ME/A,
Emerging Markets) is not required. One can assume that Bristol-Myers Squibb
does not have a material amount of revenues or assets in any single country and
voluntarily provides information on a more aggregated, regional basis. The
same appears to be true for Pfizer. Eli Lilly and Merck provide information for a
combination of both individual countries (Japan) and aggregated regional area
(Europe, E/ME/A). Pfizer has perhaps the most different basis for determining
geographic areas, focusing on developed vs. emerging markets.
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Chapter 08 - Segment and Interim Reporting
With respect to question (a), ASC 280 allows (but does not require) segments to be
combined if they have essentially the same business activities in essentially the
same economic environments. In determining whether business activities and
environments are similar, management must consider these aggregation criteria:
1. The nature of the products and services provided by each operating segment.
2. The nature of the production process.
3. The type or class of customer.
4. The distribution methods.
5. If applicable, the nature of the regulatory environment.
Segments must be similar in each and every one of these areas to be combined.
The facts of this case indicate that the types of customers and method used to
distribute products differ across the four divisions, and each division must
comply with industry-specific regulations. Thus, the Helicopters and Ships
divisions may not be combined into one reportable segment on the basis of
having essentially the same business activities in essentially the same economic
environments.
The Helicopters and Ships divisions still could be combined into a single Other
category if neither division meets any of the quantitative thresholds for disclosure
as a separate segment.
Revenue test: Total segment revenues are $11,171,005; thus, any segment with
more than $1,117,100 in sales is separately reportable.
Automobiles, Trucks, and Helicopters meet this threshold.
Asset test: Total segment assets are $9,993,830, thus any segment with assets
greater than $999,383 is separately reportable.
All four segments, including Ships, meet this threshold.
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Chapter 08 - Segment and Interim Reporting
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Chapter 08 - Segment and Interim Reporting
2. The disclosures required under ASC 280 could be provided in the following
manner:
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Chapter 08 - Segment and Interim Reporting
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Chapter 08 - Segment and Interim Reporting
1. Assess the seasonal nature of Walmarts sales and income for the company
as a whole and by operating segment.
The excerpt from Note 17 Quarterly Financial Data shows that Walmart
experienced a significant increase in net sales and income in the quarter
ended January 31 over the previous three quarters of the year. This is not
surprising given that this quarter includes the holiday season.
Operating income for the quarter ended January 31 can be determined for
each segment by subtracting the amounts reported in the three quarterly
reports from the amounts reported in Note 15 Segments.
These results show the seasonal nature of the companys two largest
segments (Walmart U.S. and Walmart International), with a significantly larger
amount of operating income generated in the quarter ended January 31 than in
the other quarters.
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Chapter 08 - Segment and Interim Reporting
These results indicate that profit margins are highest in the fourth quarter of
the year, the quarter with the largest percentage of total sales.
These results indicate that Walmart U.S. by far is the most profitable segment
for Walmart Stores, Inc. Although the Walmart International segment has a
reasonable Operating Profit Margin (4.94%), that segments Return on Assets
is very low (7.64%). Return on Assets must be interpreted with caution,
however, because the ending balance in Total Assets of Continuing
Operations is used in the denominator of the ratio rather than the average
amount of Total Assets for the year. The Walmart International segments
Return on Assets (7.64%) is understated, for example, if a significant portion
of Total Assets was acquired late in the year.
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Chapter 08 - Segment and Interim Reporting
2. There is no right or wrong answer to this question. Students could argue that
Latin America and Europe would be the areas of the world in which to expand
because profit margin is highest in these areas. There would seem to be more
room to expand in Latin America given that this area has a slightly smaller
percentage of total net revenues than Europe. In addition, revenue growth in
Europe has been small in the most recent two years, so expansion might not
be feasible in this region.
Eurasia & Africa and Pacific also have relatively high profit margins. The
company generates the smallest percentage of total revenues in Eurasia &
Africa, so perhaps there is an opportunity for growth in this area.
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Education.
Chapter 08 - Segment and Interim Reporting
8-32
Copyright 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill
Education.
Chapter 08 - Segment and Interim Reporting
8-33
Copyright 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill
Education.