Discuss about the Advance Financial Accounting for Segment Reporting.
Advantages of the management approach
The use of management approach in segment reporting is done for increasing the effectiveness of financial reporting. The new accounting standards under AASB 8 has adopted and implemented the use of management approach for analysing the operational functions of an organisation from the perspective of management. The management approach enables the investors and analysts to analyse to view the financial statements through the eyes of management (Bugeja, Czernkowski and Moran, 2015). Thus, it assists them in estimating the management strategies and actions and gains an insight into the operational risks that can occur in the firm in future context. The senior management can take proactive steps in advance for overcoming the risks identified through the application of management approach. The management approach also significantly reduces the costs required in preparation of financial reports as it eliminates the need for preparation of different financial disclosures for internal and external use. The financial report developed internally by the management can be used for external reporting as well under the management approach. The financial performance of each operational area can be continually assessed in a timely manner through the use of management approach. This is because management approach assists in obtaining timely segment information for external reporting by eliminating the need for different financial reports for external and internal use. It requires the business firms to report the financial performance of each business segment and thus facilitates decision-makers to analyse the operational performance of all business areas. Thus, management approach proves to be highly beneficial for the management in taking crucial decisions regarding the improvement in its operational effectiveness (Camfferman and Zeff, 2015).
The implementation of management approach under accounting standards of AASB 8 requires business corporations to organise the segments properly for analysing the operational performance relatively easily. It provides greater flexibility to management for reporting the firm performance by overcoming the restrictions under old accounting standards of AASB 114 to present the financial performance in accordance with Generally Accepted Accounting Principles (GAAP) (Dagwell et al., 2011). The continual assessment of performance of each operational area will further help the management in taking decisions regarding the resources allocated to each operational area and make strategic decisions for improving the performance of each business segment. The management can also easily identify the operational expenditure of each business segment that helps in developing an action plan for reducing the operational cost and significantly enhance the revenue generation. The adoption of management approach requires business firms to depict large amount of segment information in the financial reports and thus maximising the operational effectiveness. For example, Hiddleston Ltd has implemented the use of management approach for monitoring the performance of its each operational segment. The company is involved in manufacturing of electrical equipment and develops its interim financial reports that are presented to its outside stakeholders enabling them to assess its sales and turnover. This is done by the company to report the performance of its each operational area to management and customers and thus improve transparency in its operational segments (Hollie and Yu, 2015).
Disadvantages of Management Approach
The implementation of management approach under new accounting standards of AASB 8 also has certain drawbacks associated with it. This includes reporting of market-sensitive information to external stakeholders of a business entity as interim reports are presented for external reporting as well. The outside parties are able to view the business through the management perspective as operating segment information is presented externally in the same way as it is used by the internal management (Kang and Gray, 2013). This can sometimes become a potential threat for the business entities if the information is used by the competitors. It also results in reducing the comparability of the financial reports with industry peers not reporting segment information as per the management approach guidelines. The lack of comparability between the financial information of similar business entities does not prove useful for the investors. The investors will not be able to select the business entity properly with the lack of comparability analysing between similar business groups. The management approach can be adopted by the business entities that are traded in public and as such the private entities operating within the industry can’t adopt the use of management approach for segment reporting (Nichols, Street and Tarca, 2013).
This implements a possible drawback of non-comparing the group performance within the similar industry due to irregularity in the methods used for developing financial reports., The management approach requires significant reporting of the performance of each operational area and therefore may increase the complexity of financial statements. The non-applicability of GAAP principles in reporting performance of operational segments will require the management to provide a reconciliation of the report developed with financial statement line items. The preparation of such a reconciled report may offset the cost saved by the management in eliminating the need for developing external reports through the use of management approach. It also requires companies to manage the expectations of the stakeholders through providing them all the internal information (Bugeja, Czernkowski and Moran, 2015). It makes imperative for the companies to publish the internal information prepared by the management which may at times is very sensitive and as such can’t be disclosed to the outside stakeholders. Thus, the business companies adopting the use of management approach for segment reporting should adequately assess the potential impact of disclosing internal information on their long-term growth and development in advance. In addition to this, management approach requires certain operating segments to be aggregated that have relatively similar economic characteristics. This is one of the major challenges before the management as it requires significant critical analysis for demonstrating the segment that have similar economic characteristics and is thus time-consuming. For example, a business entity publishing the information through the use of management approach in segment reporting may not be able to attract attention of investors due to lack of comparability analysis with other groups in the same industry (AASB 8 – Divide and Conquer, 2008).
AASB 8 – Divide and Conquer. 2008. [Online]. Available at: https://kpmg.com.au/portals/0/08fr-57.pdf [Accessed on: 8 October 2016].
Bugeja, M., Czernkowski, R. and Moran, D. 2015. The Impact of the Management Approach on Segment Reporting. Journal of Business Finance & Accounting 42(3) & (4), pp. 310–366.
Camfferman, K. and Zeff, S.A. 2015. Aiming for Global Accounting Standards: The International Accounting Standards Board, 2001-2011. OUP Oxford.
Dagwell, R. et al. 2011. Corporate Accounting in Australia. Pearson Higher Education AU.
Hollie, D. and Yu, S. 2015. A Perspective On Segment Reporting Choices And Segment Reconciliations. Applied Finance and Accounting 1(2), pp. 88-95.
Kang, H. and Gray, S.J. 2013. Segment Reporting Practices in Australia: Has IFRS 8 Made a Difference? Australian Accounting Review 23(3).
Nichols, N.B., Street, D.L. and Tarca, A. 2013. The Impact of Segment Reporting Under the IFRS 8 and SFAS 131 Management Approach: A Research Review. Journal of International Financial Management & Accounting 24(3).