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Chapter 24: Question 7CA_c (page 1455)

Washington鈥擳he Securities and Exchange Commission staff issued guidelines for companies grappling with the problem of dividing up their business into industry segments for their annual reports. An industry segment is defined by the Financial Accounting Standards Board as a part of an enterprise engaged in providing a product or service or a group of related products or services primarily to unaffiliated customers for a profit. Although conceding that the process is a 鈥渟ubjective task鈥� that 鈥渢o a considerable extent, depends on the judgment of management,鈥� the SEC staff said companies should consider . . . various factors . . . to determine whether products and services should be grouped together or reported as segments.

Instructions

(c) Identify the possible disadvantages of requiring financial data to be reported by segments

Short Answer

Expert verified

The main disadvantage of requiring financial data to be reported by segments is that it might result in misleading comparisons of segments of different enterprises.

Step by step solution

01

Meaning of Financial Statements

Financial statements are reports generated by a company's management to demonstrate the company's financial performanceand position at a certain moment in time. A balance sheet, income statements, statement of owner's equity, and statement of cash flows are usually included in a general-purpose collection of financial statements.

02

Disadvantage of requiring financial data to be reported by segments.

The following are some of the potential drawbacks of requiring financial data to be provided by segments:

  1. Often they can be misinterpreted because of a general lack of public understanding of the limits of a relatively arbitrary basis for cost allocation.
  2. They have the ability to obscure the interconnectedness of all components.
  3. Competitors will gain access to confidential information about profitable or unprofitable products, plans for new products or market entry, apparent vulnerabilities that may prompt competitors to increase their own efforts to exploit the weakness, and existence is not indicated otherwise.
  4. Those who read the operating figures reported by segment may be misled. Internal management segment data often includes arbitrary decisions that are known to the individuals who use the data and are used in the evaluation. Many believe that it is impossible to make such background material accessible and accessible to non-experts.
  5. Making this information accessible could result in customers challenging prices, which would be detrimental to the Company.

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Most popular questions from this chapter

Subsequent events are reviewed through which date under IFRS?

a) Statement of financial position date.

b) Sixty days after the year-end date.

c) Date of independent auditor鈥檚 opinion.

d) Authorization date of the financial statements

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

The president of Picasso Company has asked the controller to prepare a report that summarizes the financial aspects of the company鈥檚 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鈥�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鈥� 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

b) In terms of the ratios provided, what conclusion(s) can be drawn regarding the company鈥檚 use of financial leverage during the 2015鈥�2017 period?

The following comment appeared in the financial press: 鈥淚nadequate financial disclosure, particularly with respect to how management views the future and its role in the marketplace, has always been a stone in the shoe. After all, if you don鈥檛 know how a company views the future, how can you judge the worth of its corporate strategy?鈥� What are some arguments for reporting earnings forecasts?

(Disclosure of Estimates) Nancy Tercek, the financial vice president, and Margaret Lilly, the controller, of Romine Manufacturing Company are reviewing the financial ratios of the company for the years 2017 and 2018. The financial vice president notes that the profit margin on sales ratio has increased from 6% to 12%, a hefty gain for the 2-year period. Tercek is in the process of issuing a media release that emphasizes the efficiency of Romine Manufacturing in controlling cost. Margaret Lilly knows that the difference in ratios is due primarily to an earlier company decision to reduce the estimates of warranty and bad debt expense for 2018. The controller, not sure of her supervisor鈥檚 motives, hesitates to suggest to Tercek that the company鈥檚 improvement is unrelated to efficiency in controlling cost. To complicate matters, the media release is scheduled in a few days.

Instructions

  1. What stakeholders might be affected by Tercek鈥檚 media release?

(Ratio Computations and Additional Analysis) Bradburn Corporation was formed 5 years ago through a public subscription of common stock. Daniel Brown, who owns 15% of the common stock, was one of the organizers of Bradburn and is its current president. The company has been successful, but it currently is experiencing a shortage of funds. On June 10, 2018, Daniel Brown approached the Topeka National Bank, asking for a 24-month extension on two \(35,000 notes, which are due on June 30, 2018, and September 30, 2018. Another note of \)6,000 is due on March 31, 2019, but he expects no difficulty in paying this note on its due date. Brown explained that Bradburn鈥檚 cash flow problems are due primarily to the company鈥檚 desire to finance a \(300,000 plant expansion over the next 2 fiscal years through internally generated funds. The commercial loan officer of Topeka National Bank requested the following financial reports for the last 2 fiscal years

BRADBURN CORPORATION

BALANCE SHEET

MARCH 31

Assets

2018

2017

Cash

\) 18,200

\( 12,500

Notes receivable

148,000

132,000

Accounts receivable (net)

131,800

125,500

Inventories (at cost)

105,000

50,000

Plant & Equipment (net of depreciation)

1,449,000

1,420,500

Total assets

\)1,852,000

\(1,740,500

Liabilities and Stockholders鈥� Equity

Accounts payable

\) 79,000

\( 91,000

Notes payable

76,000

61,500

Accrued liabilities

9,000

6,000

Common stock (130,000 shares, \)10 par)

1,300,000

1,300,000

Retained earnings*

388,000

282,000

Total liabilities and stockholders鈥� equity

\(1,852,000

\)1,740,500

*Cash dividends were paid at the rate of \(1 per share in the fiscal year 2017 and \)2 per share in the fiscal year 2018.

BRADBURN CORPORATION

INCOME STATEMENT

FOR THE FISCAL YEARS ENDED MARCH 31

2018

2017

Sales revenue

\(3,000,000

\)2,700,000

Cost of goods sold*

1,530,000

1,425,000

Gross margin

1,470,000

1,275,000

Operating expenses

860,000

780,000

Income before income taxes

610,000

495,000

Income taxes (40%)

244,000

198,000

Net income

\( 366,000

\) 297,000

*Depreciation charges on the plant and equipment of \(100,000 and \)102,500 for fiscal years ended March 31, 2017, and 2018, respectively, are included in the cost of goods sold.

Instructions

(a). Compute the following items for Bradburn Corporation.

  1. Current ratio for fiscal years 2017 and 2018.
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