Segment Reporting

A segment in an organization is simply a part of the organization or an activity that managers would like financial information from in order to make decisions and evaluate performance. Examples of segments include divisions of a company, sales territories, individual stores, service centres, manufacturing plants, marketing departments, individual customers and product lines.

Areas of Responsibility

In decentralized organizations, basic business segments are usually classified as either a cost, profit or investment center. Under responsibility accounting, managers are held responsible for those items of revenues and cost – and only those items – over which the manager can exert significant influence. The managers are held responsible for differences between budgeted and actual results.

Cost centers: Business segments where managers have decision-making authority over inputs, or costs.

Profit centers: Business segments where managers have decision-making authority on inputs and sales and, therefore, are responsible for costs, revenues and profits.

Investment centers: Business segments where managers have decision-making authority over the short- and long-term use of capital. As a result, business managers are evaluated on their use of capital, or return on investment (ROI). 

Treatment of Costs

Segmented income statements are prepared using a contribution format, as this method separates fixed from variable costs and enables the calculation of contribution margin. The contribution margin is especially useful in decisions involving temporary use of capacity, such as special orders.

Common costs are not assigned to segments. For example, service department costs and organization-sustaining costs are not assigned to operating departments, nor are head office costs assigned to an individual store. Fixed costs that are traceable to that segment (costs that would not be incurred without the segment, such as a managers salary) are included to calculate segment margin.

Common costs: Fixed costs that support the operations of more than one segment. Common costs cannot be eliminated in whole or in part by the elimination of one segment.

Traceable fixed costs: Fixed costs that support the operations of one segment. If the segment is eliminated, the fixed cost is eliminated. Traceable fixed costs of one segment may be a common fixed cost of another segment.