SM Hoyle AdvAcc11e Ch08

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CHAPTER 8
SEGMENT AND INTERIM REPORTING
Chapter Outline
I. In the past, consolidation of financial information made the analysis of diversified companies
quite difficult.
A. The consolidation process tends to obscure the individual characteristics of the various
component operations.
B. Many groups called for the presentation of disaggregated financial data as a means of
enhancing the information content of corporate financial reporting.
II. The move toward dissemination of disaggregated information culminated in December 1976
with the release by the FASB of Statement 14, Financial Reporting for Segments of a
Business Enterprise.
A. This pronouncement required extensive disclosures pertaining to industry segments,
domestic and foreign operations, export sales, and major customers.
B. Although financial analysts found segment information to be very useful, they consistently
requested that financial information be disaggregated to an even greater extent than was
done in practice.
C. Of particular concern was SFAS 14s dominant industry rule which allowed many
companies to avoid providing disaggregated data by industry segment.
III. In response to the demand by financial analysts for improvements in segment reporting, the
FASB issued Statement 131, Disclosures about Segments of an Enterprise and Related
Information in June 1997.
A. SFAS 131 adopts 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.
Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

Hoyle, Schaefer, Doupnik, Advanced Accounting, 9/e 8-1
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D. SFAS 131 also sets several general restrictions on the presentation of operating
segments.
1. Separately reported operating segments must generate at least 75 percent of total
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 (discontinued operations 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.
IV. Enterprise-wide disclosures.

A. Information about products and services.
1. Additional information must be provided if operating segments have not been
determined based on differences in products and services, or if the enterprise has only
one operating segment.
2. In those situations, revenues derived from transactions with external customers must
be disclosed by product or service.
B. Information about geographic areas.
1. Revenues from external customers and long-lived assets must be reported for (a) the
domestic country, (b) all foreign countries in which the enterprise has assets or derives
revenues, and (c ) each individual foreign country in which the enterprise has material
revenues or material long-lived assets.
2. The FASB does not provide any specific guidance with regard to determining
materiality of revenues or long-lived assets; this is left to managements judgment.
C. Information about major customers.
1. The volume of sales to a single customer must be disclosed if it constitutes 10 percent
or more of total sales to unaffiliated customers.
2. The identity of the major customer need not be disclosed.
V. 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.
McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

8-2 Solutions Manual
VI. APB Opinion No. 28 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.
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.
VII. FASB Statement No. 154, Accounting Changes and Error Corrections, provides guidance for
reporting changes in accounting principles including those 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.
VIII. Many companies provide summary financial statements and notes in their interim reports.
A. APB Opinion No. 28 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.
IX. 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.
Learning Objectives
Having completed Chapter 8 of this textbook, Segment and Interim Reporting, students should be
able to fulfill each of the following learning objectives:
1. Identify the financial analysis problems associated with consolidated financial statements.
2. Discuss the method by which an enterprise determines its operating segments and the factors
that influence this determination.
3. Identify and apply the three tests that are used to determine which operating segments are of
significant size to warrant separate disclosure.
4. List the basic disclosure requirements for operating segments.
5. Describe the various limitations within which the number of separately disclosed operating
segments should fall.
6. Explain when enterprise-wide disclosures related to products and services is required.
7. Explain when and what types of information about geographic areas must be disclosed.
8. Describe the criterion by which sales to a single unaffiliated customer are measured to
determine whether disclosure is required.
9. Explain the "integral" approach followed in preparing interim reports and distinguish it from the
"discrete" approach.
10. Describe and apply procedures used in interim reports for LIFO liquidations, costs associated
with more than one interim period, income taxes, and accounting changes.
11. List the minimum disclosure requirements for interim financial reports.

Answer to Discussion Question
In his well-publicized The Numbers Game speech delivered in September 1998, former SEC
chairman Arthur Levitt cited materiality as one of five gimmicks used by companies to manage
earnings. Although his remarks were not specifically directed toward the issue of geographic
segment reporting, the intent was to warn the corporate America that materiality should not be used
as an excuse for inappropriate accounting. To make the point even more salient, the SEC issued
Staff Accounting Bulletin (SAB) 99, Materiality, in August 1999, which warns financial statement
preparers that reliance on a simple numerical rule of thumb, such as 5% of net income, is not
sufficient. SAB 99 reminds financial statement preparers that:
The omission or misstatement of an item in a financial report is material if, in the light of
surrounding circumstances, the magnitude of the item is such that it is probable that the judgment
of a reasonable person relying upon the report would have been changed or influenced by the
inclusion or correction of the item.
Further, SAB 99 reminds companies that both quantitative and qualitative factors should be
considered in determining materiality. With respect to segment reporting, SAB 99 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 SAB 99. 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.
On the other hand, the FASB could establish a materiality threshold low enough, for example, 5% of
total revenues, that would be likely to ensure that material countries are disclosed regardless of
whether they are material for quantitative or qualitative reasons. A bright-line materiality threshold

would ensure a minimum level of disclosure and would enhance the comparability of financial
disclosures provided across companies.

Answers to Questions
1. Consolidation presents the account balances of a business combination without regard for the
individual component companies 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 SFAS 131, 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 will remove much of
the flexibility and subjectivity associated with defining industry segments under SFAS 14. 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.
5. SFAS 131 defines an operating segment to be a component of an enterprise:

a. that engages in business activities from which it earns revenues and incurs expenses,
b. whose operating results are regularly reviewed by the chief operating decision maker to
assess performance and make resource allocation decisions, and
c. for which discrete financial information is available.
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.
8. For reportable operating segments, the following information must be disclosed:

a. Revenues from sales to unaffiliated customers.
b. Revenues from intercompany transfers.
c. Profit or loss.
d. Interest revenue.
e. Interest expense.
f. Depreciation, depletion, and amortization expense.
g. Other significant noncash items included in profit or loss.
h. Unusual items included in profit or loss.
i. Income tax expense or benefit.
j. Total assets.
k. Equity method investments.
l. Expenditures for long-lived assets.
m. Description of the types of products or services from which the segment derives its
revenues.
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. SFAS 131 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. 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.
15. 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.
16. 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.
17. 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.
18. 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.
19. The following minimum information must be disclosed in an interim report:

a. Sales, income tax, extraordinary items, cumulative effect of accounting change, and
net income.
b. Earnings per share.
c. Seasonal revenues and expenses.
d. Significant changes in estimates or provisions for income taxes.
e. Disposal of a business segment and unusual items.
f. Contingent items.
g. Changes in accounting principles or estimates.
h. Significant changes in the following items of financial position:
1. Cash and cash equivalents.
2. Net working capital.
3. Long-term liabilities.
4. Stockholders' equity.
20. 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.

Answers to Problems
1. D
2. C
3. A
4. C
5. B
6. D
7. C
8. A
9. B
10. B
11. C
12. C
13. C With regard to major customers, SFAS 131 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. A
16. C
17. D
18. 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.

19. D Sales to outsiders $18,000

Intersegment transfers 3,000
Combined segment revenues $21,000
10% criterion x 10%
Minimum $ 2,100
20. A Revenues from a single customer must be disclosed if the amount is 10

percent or more of consolidated sales. Consolidated sales only includes
sales to outsiders; intersegment sales are eliminated.
Consolidated sales (combined sales to outsiders) $376,000

10% criterion x 10%
Minimum $ 37,600
21. D 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.
22. C Revenues Test

Combined segment revenues $32,750,000
10% criterion x 10%
Minimum $ 3,275,000
Segments meeting testA, B, C, E
Profit or Loss Test

Since there are no segments with a loss, this test is applied based on total
combined segment profit.
Combined segment profit $5,800,000
10% criterion x 10%
Minimum $ 580,000
Segments meeting testA, B, C, E
Asset Test
Combined segment assets $67,500,000
10% criterion x 10%
Minimum $ 6,750,000
Segments meeting testA, B, C, D, E
Five segments are separately reportable.
23. D

24. B The test to verify that a sufficient number of industry segments is being
disclosed is based on revenues generated from unaffiliated customers. The
four segments that are to be separately disclosed show outside sales of
$520,000 out of a total for the company of $710,000. Since this portion is only
73.2 percent of the companys total, the 75 percent criterion established by
the FASB has not been met.
25. C $60,000 x 1/4 = $15,000

$120,000 x 1/4 = 30,000
$45,000
26. C Income as reported $100,000

Less: Extraordinary loss (recognized in full
in the interim period in which it occurs) (20,000)
Add: Cumulative effect loss (handled through
adjustment of retained earnings balance
at the beginning of the year) 16,000
$ 96,000
27. C $1,000,000 x 1/4 = $250,000
28. C $480,000 x 1/4 = $120,000
29. C Dr. Property Tax Expense $120,000

Dr. Prepaid Property Taxes 360,000
Cr. Cash $480,000
30. A 5,000 units x $80 = $400,000

300 units x $50 = 15,000
5,300 units $415,000
31. C 5,000 units x $80 = $400,000

300 units x $82 = 24,600
5,300 units $424,600

32. (10 minutes) (Apply the Profit or Loss Test to Determine Reportable Operating
Segments)
Calculation of profit or loss.
Revenues Intersegment Operating

from Outsiders Transfers Expenses Profit Loss
Cards $1,200,000 + $ 100,000 $900,000 = $400,000

Calendars 900,000 + 200,000 1,350,000 = $250,000
Clothing 1,000,000 700,000 = 300,000
Books 800,000 + 50,000 770,000 = 80,000
Total $ 780,000 $250,000
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.

33. (25 minutes) (Apply the Three Tests Necessary to Determine Reportable
Operating Segments)
Revenue Test (numbers in thousands)
Segment Revenues Percentage

Plastics $ 6,425 63.7% (reportable)
Metals 2,294 22.7% (reportable)
Lumber 738 7.3%
Paper 455 4.5%
Finance 186 1.8%
Total $10,098 100.0%
Profit or Loss Test (numbers in thousands)

Segment Revenues Expenses Profit Loss
Plastics $ 6,425 $ 3,975 $2,450 $ (reportable)
Metals 2,294 1,628 666 (reportable)
Lumber 738 967 229
Paper 455 610 155
Finance 186 103 83
Total $3,199 $384
Since $3,199 is larger in absolute terms than $384, it will serve as the basis for
testing. Each of the profit or loss figures will be compared to $319.90 (10% x
$3,199).
Asset Test (numbers in thousands)
Segment Assets Percentage
Plastics $1,363 21.3% (reportable)
Metals 3,347 52.3% (reportable)
Lumber 314 4.9%
Paper 609 9.5%
Finance 768 12.0% (reportable)
Total $6,401 100.0%
The plastics, metals, and finance segments meet at least one of the three tests
and therefore are reportable.

34. (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.

35. (25 minutes) (Apply the Three Tests Necessary to Determine Reportable
Operating Segments and Determine Whether a Sufficient Number of Segments is
Reported)
Revenue Test (numbers in thousands)
Segment Revenues Percentage

Books $ 205 9.3%
Computers 936 42.3% (reportable)
Maps 455 20.6% (reportable)
Travel 432 19.5% (reportable)
Finance 184 8.3%
Total $2,212 100.0%
Profit or Loss Test (numbers in thousands)
Segment Revenues Expenses Profit Loss

Books $ 205 $ 218 $ 13
Computers 936 899 $ 37 (reportable)
Maps 455 400 55 (reportable)
Travel 432 314 118 (reportable
Finance 184 132 52 (reportable)
Total $2,212 $1,963 $262 $ 13
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 $26,200 (10% x $262,000)
is separately reportable.
Asset Test (numbers in thousands)
Segment Assets Percentage

Books $ 206 6.1%
Computers 1,378 40.5% (reportable)
Maps 248 7.3%
Travel 326 9.6%
Finance 1,240 36.5% (reportable)
Total $3,398 100.0%

35. (continued)
Test for Sufficient Number of Segments Being Reported
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.
Segment Sales to Outsiders

Computers $ 696
Maps 416
Travel 314
Finance 37
Total $1,463
36. (15 minutes) (Apply Materiality Tests Adopted by a Company to Determine

Countries to be Reported Separately)
Revenue Test (sales to unaffiliated parties)
United States $4,610,000 80.3%

Spain 395,000 6.9%
Italy 272,000 4.7%
Greece 463,000 8.1%
Total $5,740,000 100.0%
Long-lived Asset Test
United States $1,894,000 83.7%

Spain 191,000 8.4%
Italy 106,000 4.7%
Greece 72,000 3.2%
Total $2,263,000 100.0%
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.

37. (20 minutes) (Allocate Costs Incurred in One Quarter that Benefit the Entire Year
and Determine Income Tax Expense)
a. Determination of Income by QuarterEstimated Annual Tax Rate 40%
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter

Sales $1,000,000 $1,200,000 $1,400,000 $1,600,000
Cost of goods sold (400,000) (480,000) (550,000) (600,000)
Administrative costs (175,000) (180,000) (185,000) (195,000)
Advertising costs (25,000) (25,000) (25,000) (25,000)
Executive bonuses (20,000) (20,000) (20,000) (20,000)
Provision for bad debts (13,000) (13,000) (13,000) (13,000)
Annual maintenance costs (15,000) (15,000) (15,000) (15,000)
Pre-tax income $352,000 $467,000 $592,000 $732,000
Income tax* (140,800) (186,800) (236,800) (292,800)
Net income $211,200 $280,200 $355,200 $439,200
* Calculation of income tax by quarter:
Pre-tax income this quarter $352,000 $467,000 $592,000 $732,000

Cumulative pre-tax income $352,000 $819,000 $1,411,000 $2,143,000
Estimated income tax rate x 40% x 40% x 40% x 40%
Cumulative income tax
to be recognized to date $140,800 $327,600 $564,400 $857,200
recognized in earlier periods -0- 140,800 327,600 564,400
Income tax this quarter $140,800 $186,800 $236,800 $292,800
b. Determination of Income by QuarterChange in Estimated Annual Tax Rate
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter

Pre-tax income $352,000 $467,000 $592,000 $732,000
Income tax** (140,800) (186,800) (208,580) (278,160)
Net income $211,200 $280,200 $383,420 $453,840

37. (continued)
** Calculation of income tax by quarter:
Pre-tax income this quarter $352,000 $467,000 $592,000 $732,000
Cumulative pre-tax income $352,000 $819,000 $1,411,000 $2,143,000
Estimated income tax rate x 40% x 40% x 38% x 38%
to be recognized to date $140,800 $327,600 $536,180 $814,340
recognized in earlier periods -0- 140,800 327,600 536,180
Income tax this quarter $140,800 $186,800 $208,580 $278,160
38. (15 minutes) (Treatment of Accounting Change Made in Other than First Interim
Period)
Retrospective application of the FIFO method results in the following
restatements of income for 2008 and the first quarter of 2009:
2008 2009
1st Q. 2nd Q. 3rd Q. 4th Q. 1st Q.
Sales $10,000 $12,000 $14,000 $16,000 $18,000
Cost of goods sold (FIFO) 3,800 4,600 5,200 6,000 7,400

Operating expenses 2,000 2,200 2,600 3,000 3,200
Income before income taxes 4,200 5,200 6,200 7,000 7,400
Income taxes (40%) 1,680 2,080 2,480 2,800 2,960
Net income $2,520 $3,120 $3,720 $4,200 $4,440
Net income in the second quarter of 2009 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 2009, with year-to-
date information, and comparative information for similar periods in 2008 as
follows:
Three Months Ended Six Months Ended

June 30 June 30
2008 2009 2008 2009
Net income $3,120 $4,560 $5,640 $9,000
Net income per common share $3.12 $4.56 $5.64 $9.00

39. (10 minutes) (LIFO Liquidation in Interim Report)
Determination of Cost-of-Goods-Sold and Gross Profit
Sales (110,000 units @ $20) $2,200,000

Cost-of-goods-sold
100,000 units @ $14 $1,400,000
10,000 units @ $15 (replacement cost) 150,000 1,550,000
Gross profit $650,000
Journal Entries to Record Sales and Cost-of-Goods-Sold
Dr. Cash or accounts receivable $2,200,000

Cr. Sales revenue $2,200,000
Dr. Cost-of-goods-sold $1,550,000
Cr. Inventory $1,520,000
Cr. Excess of replacement cost over
historical cost of LIFO liquidation 30,000
To record cost-of-goods-sold with a historical cost of $1,520,000 and an excess of

replacement cost over historical cost for beginning inventory liquidated of $30,000
(($15 $12) x 10,000 units).

Answers to Develop Your Skills Cases
Research Case 1Segment 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.
Research Case 2Interim Reporting
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 by APB Opinion 28 as listed in the
text. The responses to this assignment will depend upon the company selected
by the student for analysis.
Research Case 3Operating Segments
This assignment requires students to find the note on operating segments in

each company's annual report, determine three items of information (answer
three questions) from those notes, and prepare a written summary of their
findings. The primary objective of this requirement is to help students develop
their ability to present such findings in a written format. In answering these
questions, students will become familiar with the different formats and
terminology used by companies in providing operating segment information.
The answers to these questions will change depending upon the most recent
annual report available on the companys website. The following general
observations indicate how these questions might be answered.
1. The answer to this question is determined by calculating the ratio
segment revenues/total segment revenues for each segment of each
company. Different terms can be used for revenues including net sales
and net sales to external customers. Companies are required to disclose
both revenues from sales to external customers and revenues from
intersegment sales. This question should be answered using revenues
from sales to external customers if reported separately. In 2006, four of the
five companies defined operating segments on the basis of
products/services. However, Cisco Systems identified its operating
segments as geographic areas.
2. This question is answered by calculating the ratio (current year segment
revenues previous year segment revenues)/previous year segment
revenues for each segment of each company.
3. This question is answered by calculating the ratio segment
profit/segment revenues for each segment of each company (again using
revenues from sales to external customers if separately reported). Segment
profit goes under a variety of names including operating earnings, income

from continuing operations, standard margin, and operating profit. Cisco

Systems uses gross margin by segment in making decisions. Some
companies might provide information for more than one measure of profit,
e.g., income before income taxes and income from continuing operations,
in which case the instructor might wish to indicate which measure of profit
to consider in answering this question. There is no right or wrong
measure of profit to use. General Electric does not include segment profit
in its operating segment note, but instead (in 2006) refers the reader to a
Summary of Operating Segments table on page 40 of the annual report,
which is part of Management's Discussion and Analysis.
After reviewing the information provided by each of these companies in its

segment footnote, instructors might wish to add additional questions to this
assignment. For example, do these companies use generally accepted
accounting principles in preparing segment information? Does each company
provide a reconciliation to consolidated totals?
Research Case 4Comparability of Geographic Area Information
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
2006 annual reports represents the type of analysis students might perform in
solving this assignment.
Geographic Areas Reported by Four Pharmaceutical Companies2006

Bristol-Myers Squibb Eli Lilly Merck Pfizer
U.S. U.S. U.S. U.S.
Europe/MidEast/Africa E/ME/A E/ME/A -
Other Western Hemi. - - -
Pacific - - -
- - Japan Japan
- Other Other All Other
The only geographic area that can be directly compared across these four
pharmaceutical companies is the United States. Bristol-Myers Squibb provides
more detailed (and perhaps more useful) information than the other companies.
Only Merck and Pfizer reports 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, Pacific) is not required by SFAS 131. 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. Pfizer, on the other hand, has elected not to provide such
voluntary information, only reporting individual countries (Japan) and all other
countries.
Research Case 5Within Industry Comparison of Segment Information
The purpose of this assignment is to show students how segment information

can be used to gain insights into the nature and location of a companys
operations, and give them an opportunity to compare and contrast this
information for two companies in the same industry. The responses to this
assignment will depend upon the companies selected by the student for
analysis. Students should discuss both the operating segments and geographic
areas in which the companies operate. They might discuss the extent to which
the two companies compete with each other in terms of product lines or
geographic areas, as well as the extent to which this information can be
compared. For example, if one company defines operating segments on the
basis of products and another company in the same industry defines operating
segments geographically, meaningful comparisons between the two companies
will be difficult to make.

FARS Case 1Interim Reporting
1. Using the advanced query function in FARS to search for the phrase
material seasonal variations returns two hits: APBO 28, paragraph 18, and
the dissent to APBO 28 by one member of the Board.
2. APBO 28, paragraph 18 requires firms with material seasonal variations to
disclose this fact to avoid the possibility that interim results with material
seasonal variations are taken as indicative of the estimated results for a full
year.
FARS Case 2Segment Reporting
1. Using the advanced query function in FARS to search for the phrases
competitive harm and segments returns five hits: FAS 131, paragraphs
74, 75, 97, 109, and 111.
2. FAS 131, paragraph 109 indicates that concerns were raised about publicly
traded companies being at a disadvantage compared to nonpublic
companies or foreign competitors who do not have to disclose segment
information, and that segment information might put a company at a
disadvantage in price negotiations with customers or in competitive bidding
situations.
3. FAS 131, paragraph 111 indicates that the FASB decided not to provide a
competitive harm exemption because it would provide a means for
noncompliance with FAS 131.
4. FAS 131, paragraph 97 describes three reasons why the FASB decided not to
require the disclosure of research and development expense by segment.
First, it might result in competitive harm by providing competitors with early
insight into a companys strategic plans. Second, research and
development is only one item that indicates where a company is focusing its
efforts and is more significant for some companies than for others. Third,
research and development activities often are centralized and not allocated
to segments.

Analysis Case 1Airline Industry Interim Reporting
The purpose of this assignment is to show how interim reports can provide
more timely information about significant economic events than annual reports.
The responses to this assignment will depend upon the company selected by
the student for analysis. Delta Air Lines, Inc., provided the following types of
information in its interim report for the quarter ended September 30, 2001.
In Forward-Looking Statements, the company listed the many effects on

Delta and the airline industry from the terrorist attacks on the United
States
In Note 1: Accounting and Reporting Policies, the company stated Due to
seasonal variations in the demand for air travel and other factors, including
the September 11 terrorist attacks described in Note 2 below, operating
results for the interim period are not necessarily indicative of operating
results for the entire year.
In Note 2: September 11, 2001 Events, the company discusses (1)
increased costs resulting from new FAA regulations, (2) financial
implications for the company from the Air Transportation Safety and System
Stabilization Act, and (3) its decision to reduce capacity and costs related to
the resulting reduction in staff.
The income statement reflects the financial impact from the disruption of air
travel subsequent to September 11. Delta experienced a 22% decline in
operating revenues in 3Q 2001 compared to the same quarter in the previous
year, and reported a loss of $259 million in 3Q 2001 as opposed to net income
of $133 for the same quarter in 2000.

Analysis Case 2Wal-Mart Interim and Segment Reporting
1. Not surprisingly, Wal-Mart experienced a significant increase in net sales

and net income in the quarter ended January 31, which includes the holiday
season, over the previous three quarters of the year (see Note 12).
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 11.
Wal-Mart SAM'S
Operating Income Stores CLUB International
Fiscal Year Ended January 31, 2006 $ 15,324 $ 1,385 $ 3,330
Quarter Ended April 30, 2005 3,307 295 667
Quarter Ended July 31, 2005 3,992 371 750
Quarter Ended October 31, 2005 3,312 342 797
Quarter Ended January 31, 2006 $ 4,713 $ 377 $ 1,116
These results show the seasonal nature of the companys two largest
segments (Wal-Mart and International), with the quarter ended January 31
generating a larger amount of operating income.
2. Note 12 can be used to assess profitability in terms of profit margin (Net

income/Net sales) by quarter.
Amounts in millions Quarter Ended

2005/2006 April 30 July 31 October 31 January 31
Net income $ 2,461 $ 2,805 $ 2,374 $ 3,589
Net sales 70,908 76,811 75,436 89,273
Net income/Net sales 3.47% 3.65% 3.15% 4.02%
These results indicate that profit margins are highest in the fourth quarter of
the year, the quarter with the largest percentage of total sales.
Note 11 can be used to assess profitability in terms of operating profit

margin (Operating income/Revenues) and return on assets (Operating
income/Total assets) by segment.

Wal-Mart SAMS Inter-

Fiscal year ended January 31, 2005 Stores CLUB national
Operating income (loss) $ 15,324 $ 1,385 $ 3,330
Revenues from external customers 209,910 39,798 62,719
Operating income/Revenues 7.30% 3.48% 5.31%
Operating income (loss) $ 15,324 $ 1,385 $ 3,330

Total assets of continuing operations 32,809 5,686 51,581
Operating income/Total assets 46.71% 24.36% 6.46%
These results indicate that Wal-Mart Stores by far is the most profitable
segment for the Wal-Mart Company. Although the International segment has
a reasonable Operating Profit Margin, that segments Return on Assets is
very low. Return on Assets must be interpreted with caution, however,
because the ending balance in Total Assets is used in the denominator of
the ratio rather than the average amount of Total Assets for the year. The
International segments Return on Assets (6.46%) is understated to the
extent that a significant portion of Total Assets were acquired late in the
year.

Excel Case 1Altria Group Operating Segment Information
1. The ratios required to be calculated for Altria Group, Inc. are as follows:
Percentage of total net revenues 2005 2004

Domestic tobacco 18.53% 19.54%
International tobacco 46.28% 44.12%
North American food 23.80% 24.62%
International food 11.06% 11.28%
Financial services 0.33% 0.44%
Total 100.00% 100.00%
Percentage change in total net revenues 2004-2005

Domestic tobacco 3.56%
International tobacco 14.55%
North American food 5.59%
International food 7.04%
Financial services -19.24%
Percentage of total operating companies income 2005 2004

Total 100.00% 100.00%
Operating companies income as a percentage

of net revenues (profit margin) 2005 2004
2. In 2005, Altrias most profitable segment was Domestic Tobacco, followed

by International Tobacco, and then North American food. International
tobacco contributes the greatest percentage of total revenues and total
operating income. International food has the smallest percentage of net
revenues and operating income, and is the least profitable segment.
International tobacco experienced the greatest rate of growth in net

revenues from 2004 to 2005. The other segments experienced low growth
with Domestic tobacco growing only 3.5%.

3. Altrias tobacco operations (domestic and international) comprised

approximately 65% of net revenues and 71% of operating income in 2005.
These percentages have increased from 2004 to 2005. At the same time, the
percentage of total revenues and operating income generated by food
(especially North American) has decreased from 2004 to 2005. The company
appears to be increasing its emphasis on tobacco operations, especially
internationally. The low growth in revenues in Domestic tobacco may be
partially attributable to the legal problems experienced in the United States.
Given these legal difficulties, a shift from Domestic tobacco to International
tobacco could have a positive effect on the companys future success.

Excel Case 2Coca-Cola Geographic Segment Information
1. The ratios required to be calculated for the Coca-Cola Company are as

follows:
Percentage of total net operating revenues 2005 2004

North America 29.00% 29.68%
Africa 5.49% 4.93%
East, South Asia and Pacific Rim 5.46% 5.90%
European Union 29.55% 30.36%
Latin America 10.98% 9.81%
North Asia, Eurasia and Middle East 19.52% 19.32%
Total 100.00% 100.00%
Percentage growth in net operating revenues 2004-2005 2003-2004

Africa 18.37% 29.02%
East, South Asia and Pacific Rim -1.41% -4.13%
North Asia, Eurasia and Middle East 7.46% -3.22%
Operating income as a percentage of

net operating revenues (profit margin) 2005 2004
Africa 32.86% 31.87%
East, South Asia and Pacific Rim 15.98% 26.96%
North Asia, Eurasia and Middle East 38.03% 38.95%
2. There is no right or wrong answer to this question. Students could argue

that Latin America would be the area of the world in which to expand
because profit margin is highest in this area. There would also seem to be
more room to expand in Latin America given that this area has a relatively
small percentage of total revenues.
East, South Asia, and Pacific Rim is the only area in which the company has
experienced a decline in revenues in 2004 and 2005. This is the region in
which the company has the smallest percentage of total revenues and it also
is the area with the smallest profit margin (in 2005). Perhaps this is the area
in which the company should concentrate its efforts, especially because the

company does not appear to be very successful there.
3. There is a great deal of non-accounting information that one would need to

determine a specific region of the world in which to focus expansion. For
example, one might need to gather information to answer the following
questions:
Is there a sufficiently large population with enough disposable income to

be able to purchase the companys products?
Are raw materials available locally?
Is there a well-developed transportation infrastructure that would allow
the products to be brought to consumers at a reasonable cost?
Do local customs, culture, religion, etc. affect drinking habits, especially
the consumption of soft drinks?


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Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

IV. Enterprise-wide disclosures.

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

4. List the basic disclosure requirements for operating segments.

6. Explain when enterprise-wide disclosures related to products and services is required.

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

Answer to Discussion Question

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

5. SFAS 131 defines an operating segment to be a component of an enterprise:

6. Two criteria must be considered in this situation to determine an enterprises operating

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

8. For reportable operating segments, the following information must be disclosed:

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

19. The following minimum information must be disclosed in an interim report:

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

19. D Sales to outsiders $18,000

20. A Revenues from a single customer must be disclosed if the amount is 10

Consolidated sales (combined sales to outsiders) $376,000

22. C Revenues Test

Segments meeting testA, B, C, E

Profit or Loss Test

Segments meeting testA, B, C, E

Segments meeting testA, B, C, D, E

Five segments are separately reportable.

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

25. C $60,000 x 1/4 = $15,000

26. C Income as reported $100,000

27. C $1,000,000 x 1/4 = $250,000

28. C $480,000 x 1/4 = $120,000

29. C Dr. Property Tax Expense $120,000

30. A 5,000 units x $80 = $400,000

31. C 5,000 units x $80 = $400,000

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

Calculation of profit or loss.

Revenues Intersegment Operating

Cards $1,200,000 + $ 100,000 $900,000 = $400,000

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

Revenue Test (numbers in thousands)

Segment Revenues Percentage

Profit or Loss Test (numbers in thousands)

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

34. (20 minutes) (A Variety of Computational Questions about Operating Segment

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009

Revenue Test (numbers in thousands)

Segment Revenues Percentage

Profit or Loss Test (numbers in thousands)

Segment Revenues Expenses Profit Loss

Asset Test (numbers in thousands)

Segment Assets Percentage

Irwin/McGraw-Hill The McGraw-Hill Companies, Inc., 2009

Test for Sufficient Number of Segments Being Reported

Four of Masons segments (computers, maps, travel, and finance) meet at

Segment Sales to Outsiders

36. (15 minutes) (Apply Materiality Tests Adopted by a Company to Determine

Revenue Test (sales to unaffiliated parties)

United States $4,610,000 80.3%

Long-lived Asset Test

United States $1,894,000 83.7%

McGraw-Hill/Irwin The McGraw-Hill Companies, Inc., 2009