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What quantitative materiality test is applied to determine whether a segment is significant enough to warrant separate disclosure?

Short Answer

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The company chooses the fragments for conceivable disclosure; a quantitative test is made to decide whether the fragment is critical enough to warrant genuine disclosure.

Step by step solution

01

Meaning of Disclosure

A disclosure is a supplemental informationthat has been added to an entity's financial statements, often in order to clarify the operations within which the entity's money-related performance occurs, unusual rarities that would have been cleared for the most part in initiating an investigation.

02

Explaining the accounting problems related to diversified companies.   

After a company has selected parts for perceivable disclosure, a quantitative test is performed to determine whether the part is important enough to warrant genuine disclosure. A part is distinguished as a reportable piece when it completes one or more tests after tests.

(a) Its income (counting both sales to uninfluenced customers and intersegment sales or exchanges) is 10% or more of the combined income (deals to uninfluenced customers and intersegment deals or exchanges) of all the enterprise’s industry sections

(b) a lump sum of 10% or more of its operating profit or operating loss principal, in full amount, of

  1. Combined operating profit of all industrysegments that do not result in an operating loss, or
  2. Combined operating loss of all industry segments does not bring an operating loss.
  3. Its identifiable assets account for 10% or more of the total identifiable assets of all the components.

In applying these tests, two additional components must be considered. To begin with, segment data should describe a significant parcel of a company's business. Specifically, joint transactions for unrelated customers must be equal to or greater than 75% for the fractured entire enterprise. This test prevents one company from providing limited information because it was multiple pieces and tying everyone else into one category.

Second, the profession recognized that reporting, as well as multiple segments, could overwhelm customers with point-by-point information. Despite the fact that the FASB has not set a clear rule as to how many shares are equivalent, this point is examined when a corporation has 10 or more reportable divisions.

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Most popular questions from this chapter

What type of disclosure or accounting do you believe is necessary for the following items?

a) Because of a general increase in the number of labor disputes and strikes, both within and outside the industry, there is an increased likelihood that a company will suffer a costly strike in the near future.

b) A company reports a material unusual and infrequent loss on the income statement. No other mention is made of this item in the annual report.

c) A company expects to recover a substantial amount in connection with a pending refund claim for a prior year’s taxes. Although the claim is being contested, counsel for the company has confirmed the client’s expectation of recovery.

The following information was described in a note of Canon Packing Co.

“During August, Holland Products Corporation purchased 311,003 shares of the Company’s common stock which constitutes approximately 35% of the stock outstanding. Holland has since obtained representation on the Board of Directors.”

“An affiliate of Holland Products Corporation acts as a food broker for Canon Packing in the greater New York City marketing area. The commissions for such services after August amounted to approximately $20,000.”

Why is this information disclosed?

Distinguish between ratio analysis and percentage analysis relative to the interpretation of financial statements. What is the value of these two types of analyses?

Tina Bailey, a student of intermediate accounting, was heard to remark after a class discussion on segment reporting, “All this is very confusing to me. First we are told that there is merit in presenting the consolidated results, and now we are told that it is better to show segmental results. I wish they would make up their minds.” Evaluate this comment.

Picasso Company is a wholesale distributor of packaging equipment and supplies. The company’s sales have averaged about \(900,000 annually for the 3-year period 2015–2017. The firm’s total assets at the end of 2017 amounted to \)850,000.

The president of Picasso Company has asked the controller to prepare a report that summarizes the financial aspects of the company’s operations for the past 3 years. This report will be presented to the board of directors at their next meeting.

In addition to comparative financial statements, the controller has decided to present a number of relevant financial ratios which can assist in the identification and interpretation of trends. At the request of the controller, the accounting staff has calculated the following ratios for the 3-year period 2015–2017.

2015

2016

2017

Current ratio

1.80

1.89

1.96

Acid-test (quick) ratio

1.04

0.99

0.87

Accounts receivable turnover

8.75

7.71

6.42

Inventory turnover

4.91

4.32

3.42

Debt to assets ratio

51.0%

46.0%

41.0%

Long-term debt to assets ratio

31.0%

27.0%

24.0%

Sales to fixed assets (fixed asset turnover)

1.58

1.69

1.79

Sales as a percent of 2015 sales

1.00

1.03

1.07

Gross margin percentage

36.0%

35.1%

34.6%

Net income to sales

6.9%

7.0%

7.2%

Return on assets

7.7%

7.7%

7.8%

Return on common stockholders’ equity

13.6%

13.1%

12.7%

In preparation of the report, the controller has decided first to examine the financial ratios independent of any other data to determine if the ratios themselves reveal any significant trends over the 3-year period.

Instructions

a) The current ratio is increasing while the acid-test (quick) ratio is decreasing. Using the ratios provided, identify and explain the contributing factor(s) for this apparently divergent trend.

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