IFRS 8 Operating Segments

This document offer a comprehensive overview of IFRS 8 Operating Segments, its implementation, and ongoing discussions surrounding its application and potential amendments. The core principle of IFRS 8 is to “disclose information to enable users of its financial statements to evaluate the nature and financial effects of the business activities in which it engages and the economic environments in which it operates.” (IFRS 8, Paragraph 1). This principle underpins the “management approach” central to the standard, which aims to provide financial statement users with insights into how management views and operates the entity.

Key Themes and Important Ideas:

1. The “Management Approach” and its Rationale: IFRS 8 adopts a “management approach” to segment reporting, meaning that segment information disclosed externally should largely reflect how management internally organizes the entity to make operating decisions and assess performance. This approach replaced the “risks and rewards approach” of its predecessor, IAS 14.

• Rationale for Adoption: The shift to the management approach was largely driven by academic research and user feedback, which indicated that SFAS 131 (the US equivalent) provided more useful information than IAS 14. Key benefits identified include:
• “enabled users to see an entity through the eyes of management” (IFRS 8 BC, Paragraph BC6(b)). This allows users to better predict management actions and reactions affecting future cash flows.
• Increased number of reported segments and more detailed information.
• Timely segment information for interim reporting at relatively low incremental cost, as it utilizes internally generated data.
• Enhanced consistency with other annual report disclosures, such as management discussion and analysis.
• Reduced cost for preparers because it leverages existing internal management reports. (IFRS 8 BC, Paragraph BC9).
• Internal vs. External Reporting Consistency: The management approach is expected to lead to greater consistency between segment information in financial statements and other parts of the entity’s annual reporting package. The IASB noted that “Users of financial information have told the Board that they view segment information as more credible if it is the same in all of the entity’s reports.” (ED/2017/2, Basis for Conclusions, Paragraph BC13). However, inconsistencies have been observed in practice, leading to proposals to require explanations for such differences (ED/2017/2, Paragraph 22(d)).

2. Identification of Operating Segments and the Chief Operating Decision Maker (CODM): An operating segment is defined by three characteristics:

• Engages in business activities to earn revenues and incur expenses.
• “whose operating results are regularly reviewed by the entity’s chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance” (IFRS 8, Paragraph 5(b)).
• Discrete financial information is available. (IFRS 8, Paragraph 5).
• CODM Function vs. Title: The CODM is a “function, not necessarily a manager with a specific title.” (IFRS 8, Paragraph 7). This function involves allocating resources to and assessing the performance of operating segments. While often the CEO or COO, it can also be a group of executive directors or others. (IFRS 8, Paragraph 7).
• Challenges in CODM Identification: Identifying the CODM can be challenging, especially in complex management structures. There has been ambiguity regarding whether the CODM’s role is principally strategic or operational, particularly concerning resource allocation. (ED/2017/2, Basis for Conclusions, Paragraph BC6).
• Proposals have been made to clarify the CODM’s function, emphasizing both operating and resource allocation decisions (ED/2017/2, Paragraph 7).
• The CODM can be an individual or a group, and corporate governance requirements may influence this. Even if a group includes non-executive members who don’t participate in all decisions, it can still be the CODM if it’s the forum where key operating and resource allocation decisions are made. (ED/2017/2, Paragraphs 7A, 7B).
• Disclosure of the CODM’s title and role description is proposed to enhance transparency. (ED/2017/2, Paragraph 22(c)).
• “Regularly Reviewed”: The term “regularly” is not explicitly defined in IFRS 8, requiring judgment. If the CODM reviews information quarterly or more frequently, it is generally considered to satisfy this condition. (Insights into IFRS 8 – Identifying Operating Segments, “Operating results regularly reviewed”).
• What Constitutes an Operating Segment:
• Start-up operations, even without current revenue, can be operating segments. (IFRS 8, Paragraph 6).
• Corporate functions can be operating segments if they undertake significant revenue-generating business activities (e.g., treasury operations). However, administrative functions (finance, HR) generally are not. (Insights into IFRS 8 – Identifying Operating Segments, “Corporate functions”).
• Vertically integrated components (e.g., crude oil production feeding refining operations) can be operating segments if they are managed as such. (IFRS 8 BC, Paragraph 79; Insights into IFRS 8 – Identifying Operating Segments, “Components with outputs transferred exclusively to other segments”).
• Joint operations and joint ventures can be operating segments if the CODM regularly reviews their results for resource allocation and performance assessment. Associates are generally considered investments, not operating segments. (Insights into IFRS 8 – Identifying Operating Segments, “Interests in joint operations and joint ventures”, “Interests in associates”).
• Post-employment benefit schemes are explicitly excluded. (IFRS 8, Paragraph 7).

3. Reportable Segments and Aggregation Criteria: Reportable segments are operating segments that meet specific quantitative thresholds or result from aggregating operating segments that meet those thresholds.

• Quantitative Thresholds: An operating segment is reportable if it meets any of the following:
• Revenue (external and intersegment) is 10% or more of the combined revenue of all operating segments.
• Absolute reported profit or loss is 10% or more of the greater of (i) combined reported profit of all non-loss-making segments and (ii) combined reported loss of all loss-making segments.
• Assets are 10% or more of the combined assets of all operating segments. (IFRS 8, Paragraph 13; IFRS 8 AAG).
• If the total external revenue reported by identified reportable segments is less than 75% of the entity’s total external revenue, additional segments must be identified as reportable until the 75% threshold is met. (IFRS 8, Paragraph 16; IFRS 8 AAG; IFRS 8 Reportable Segments).
• Aggregation Criteria: Two or more operating segments can be aggregated into a single reportable segment if:
• Aggregation is consistent with the core principle of IFRS 8.
• Segments have similar economic characteristics (e.g., similar long-term financial performance across measures like revenue growth, return on assets, or gross margins).
• Segments are similar in nature of products/services, production processes, customer types, distribution methods, and regulatory environment (if applicable). (IFRS 8, Paragraph 12; ED/2017/2, Paragraph 12A).
• The Board explicitly clarified that “all the criteria in paragraph 12 of IFRS 8 must be satisfied before operating segments may be aggregated.” (EFRAG Comment Letter, Question 2, Paragraph 12).
• Practical Limit to Number of Segments: While no precise limit is set, if the number of reportable segments exceeds ten, the entity should consider if a practical limit has been reached, exercising caution in further aggregation. (IFRS 8, Paragraph 19; IFRS 8 Reportable Segments).

4. Disclosure Requirements:

• Mandatory Disclosures: IFRS 8 mandates disclosure of:
• A measure of profit or loss for each reportable segment.
• A measure of total assets and liabilities for each reportable segment if regularly provided to the CODM. (IFRS 8, Paragraph 23). This latter point was clarified by an amendment in April 2009 to align with US practice. (IFRIC Meeting Agenda, Paragraph 3; IFRS 8 BC, Paragraph BC35A).
• Specific amounts if included in segment profit/loss reviewed by CODM, or otherwise regularly provided to CODM, even if not in segment profit/loss: external and intersegment revenues, interest revenue/expense, depreciation/amortisation, material items of income and expense (per IAS 1, Paragraph 97), interest in associates/joint ventures, income tax expense/income, and material non-cash items. (IFRS 8, Paragraph 23).
• “Material Items of Income and Expense”: A submission to the IFRS Interpretations Committee (November 2023) highlighted diversity in practice regarding Paragraph 23(f) of IFRS 8.
• “Separately Reviewed”: The Committee clarified that specified amounts in Paragraph 23(a)-(i) are required to be disclosed if “included in the measure of segment profit or loss reviewed by the CODM, or are otherwise regularly provided to the CODM,” even if not “separately reviewed” by the CODM. (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 26).
• “Material Items”: Materiality is assessed based on both qualitative and quantitative factors, as per IAS 1, Paragraph 7. (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 52). This assessment is made in the context of the financial statements taken as a whole, not just at the segment level. (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 50).
• Entities should apply IAS 1’s aggregation requirements (Paragraphs 29-31) when considering whether to aggregate individually quantitatively immaterial items for disclosure under IFRS 8.23(f). (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 51).
• Material items should not be omitted simply because they are disclosed under other IFRS Accounting Standards; IAS 1 Paragraph 97 is an overarching principle. (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 58).
• Reconciliations: Totals of segment revenues, profit/loss, assets, liabilities, and other material items must be reconciled to corresponding entity amounts in the financial statements. All material reconciling items must be separately identified and described with sufficient detail to enable user understanding. (IFRS 8, Paragraph 28; ED/2017/2, Paragraph 28A).
• Entity-Wide Disclosures: Even entities with a single reportable segment must provide entity-wide disclosures if not already covered by segment disclosures. This includes revenues by product/service, geographical information (revenues from external customers by country, non-current assets by location), and information about major customers (10% or more of revenue from a single customer). (IFRS 8, Paragraphs 31-34; IFRS 8 AAG).
• A group of entities under common control is a single customer. For governments and government-controlled entities, judgment is needed, considering economic integration. (IFRS 8, Paragraph 34).
• No “Competitive Harm” Exemption: The Board decided against a competitive harm exemption, noting that “entities would be unlikely to suffer competitive harm from the required disclosures since most competitors have sources of detailed information about an entity other than its financial statements.” (IFRS 8 BC, Paragraph BC44).

5. Interim Financial Reporting (IAS 34):

• IFRS 8 applies to interim financial statements. (IFRS 8 AAG).
• There was a noted inconsistency between IFRS 8 and IAS 34 regarding segment asset disclosure. IAS 34 could be read as requiring segment asset disclosure regardless of whether it’s regularly provided to the CODM, contradicting IFRS 8. (IFRIC Meeting Agenda, Paragraphs 5-6).
• A staff recommendation proposed amending IAS 34 to align it with IFRS 8, requiring segment asset disclosure in interim reports only if (a) total assets are regularly provided to the CODM, AND (b) there has been a material change from the last annual financial statements. (IFRIC Meeting Agenda, Paragraph 10).
• Restatement of Interim Periods: When the composition of reportable segments changes, the entity shall, in the first interim report after that change, restate and disclose segment information for all interim periods of the current and prior financial years, unless impractical due to unavailability or excessive cost. (ED/2017/2, Draft Amendment to IAS 34, Paragraph 45A). This aims to improve the timeliness of trend information for users. (ED/2017/2, Basis for Conclusions on IAS 34, Paragraph BC8).

6. Implementation and Ongoing Issues:

• IFRS 8 became effective for periods beginning on or after January 1, 2009. (IFRS 8 AAG, IFRS 8, Paragraph 35).
• Post-implementation reviews (PIRs) are conducted to assess the effect of new requirements. The PIR of IFRS 8 in 2013 concluded it was functioning as expected but identified areas for further investigation and potential amendment. (ED/2017/2, Introduction, Paragraph BC1).
• Observed issues in practice include:
• Concerns over inconsistent identification of operating segments between financial statements and other reports (e.g., narrative reports, press releases). (IFRS 8 Operating Segments (2), Page 1; EFRAG Comment Letter, Question 2, Paragraph 6).
• Subjectivity and complexity of segment aggregation criteria, leading to challenges from regulators. (ED/2017/2, Basis for Conclusions, Paragraph BC21).
• Difficulty in identifying a single CODM. (ED/2017/2, Basis for Conclusions, Paragraph BC5).
• Concerns about commercial sensitivity, especially for smaller entities, though the standard provides no competitive harm exemption. (IFRS 8 Operating Segments (2), Page 2).
• Diversity in application of IFRS 8.23(f) regarding “material items of income and expense.” (Disclosure of Revenues and Expenses for Reportable Segments, Paragraph 5).
• The IASB aims to maintain convergence with US GAAP while improving IFRS 8. (ED/2017/2, Basis for Conclusions, Paragraph BC3).

In essence, IFRS 8 mandates a management-centric approach to segment reporting, aiming for transparency in how entities are managed and how resources are allocated. While generally well-received for its benefits in user understanding and cost efficiency, its application, particularly concerning the identification of the CODM and the interpretation of “material items,” continues to be a subject of clarification and ongoing discussion to ensure consistent and high-quality financial reporting.