Segment Reporting and Profitability Analysis-Segmented Income
Statements:
Learning Objectives:
- How are segmented income
statements prepared?
A different kind of income statement is required for evaluating the
performance of a profit or investment center. This income statement
should emphasize on the segment rather than the performance of the
company as a whole. A contribution margin format income statement
is used to evaluate the performance of different segments. In a
contribution margin format income statement cost of goods sold consists
only of the variable manufacturing costs. This point has been discussed
in detail on our
cost volume profit CVP
relationship page. To prepare an income statement for a particular
segment variable costs are deducted from the sales revenue to yield
contribution margin. Fixed costs are broken down further into traceable
and common fixed costs. Traceable fixed are assigned to the segments but
non-traceable or common fixed costs are not assigned to segments. For
detailed study about traceable and common fixed costs see
traceable and common fixed
cost page.
Segment Margin:
The segment margin is obtained by
deducting the traceable fixed costs of a segment from contribution
margin. It represents the margin that is available after a segment has
covered all of its own costs. The segment margin is the best gauge of the
long-run profitability of a segment, since it includes only those costs
that are caused by the segment. If a segment cannot cover is own costs,
then that segment probably should not be retained (unless it has an
important side effects on other segments).
From a decision making point of view, the
segment margin is most useful in major decisions that effect capacity
such as dropping a segment. By contrast, the contribution margin is most
useful in decisions relating to short-run changes in volume, such as
pricing special orders that involve utilization of existing capacity.
Example: 1
As an example, a portion of the segmented report is shown below.
In this report segments have been defined as divisions. Report also have
a column of total company performance for the period. We can see that
divisional segment margin is $60,000 for business product division and
$40,000 for the consumer product division. This report is very useful for
company's divisional managers They may want to know how much each of
their divisions is contributing to the company's profit.
Segments defined as divisions:
| |
Total company |
Divisions
|
| |
Business products division |
Consumer product division |
| Sales Less: Variable
expenses:
Variable cost of goods sold
Other variable expenses
Total variable expenses
Contribution margin
Less traceable fixed expenses
Divisional segment margin
Less common fixed expenses not traceable to the individual divisions
Net operating income |
$500,000
-------------
180,000
50,000
------------
230,000
------------
270,000
170,000
------------
100,000
85,000
------------
$15000 |
$300,000
-------------
120,000
30,000
-----------
150,000
-----------
150,000
90,000
-----------
$60,000
======= |
$200,000
------------
60,000
20,000
-----------
80,000
-----------
120,000
80,000
-----------
$40,000
=======
|
Example: 2
Segmented income statements can be prepared for activities at many
levels in a company. To provide more information to the company's
divisional managers the divisions can be further segmented according to
their major product lines. In the consumer product division the product
lines are clip art and computer games. This concept is further explained
by the following example. Segments defined as product
lines of the consumer product division:
| |
Consumer Product Division |
Product Line
|
| |
Clip art |
Computer Games |
| Sales Less: Variable
expenses:
Variable cost of goods sold
Other variable expenses
Total variable expenses
Contribution margin
Less traceable fixed expenses
Product line segment margin
Less common fixed expenses not traceable to the individual product
line
Divisional segment margin |
$200,000
------------
60,000
20,000
-----------
80,000
-----------
120,000
70,000*
-----------
$50,000
10,000*
------------
$40,000
======= |
$75,000
----------20,000
5,000
-----------
25,000
-----------
50,000
30,000
----------
$20,000
======= |
$125,000
----------40,000
15,000
-----------
55,000
-----------
70,000
40,000
----------
$30,000
=======
|
*Total
traceable cost ($80,000) of consumer product division include 10,000
of divisional manager's salary. This cost now is a common fixed cost
for clip art and computer games. Because non of these products is
solely responsible for this salary of manager.
Click here for
detailed study of
traceable and common fixed costs.
Going even further , we can segment each of the product lines
according to how they are sold--in retail computer stores or by catalog
sales. Example: 3
Segments defined as sales channels for one product line,
computer games, of the consumer products division
| |
Computer games |
Sales channels |
| |
Retail stores |
Catalog sales |
| Sales
Less: Variable
expenses:
Variable cost of goods sold
Other variable expenses
Total variable expenses
Contribution margin
Less traceable fixed expenses
Sales channel segment margin
Less common fixed expenses not traceable to the individual sales
channel
Product line segment margin |
$125,000
----------
40,000
15,000
-----------
55,000
-----------
70,000
25,000
----------
$30,000
15,000
----------
$30,000
=======
|
$100,000
----------
32,000
5,000
---------
37,000
---------
63,000
15,000
---------
$48,000
====== |
$25,000
----------
8,000
10,000
---------
18,000
---------
7,000
10,000
---------
$3,000
======
|
Substantial benefits are received from a
series of statements of such as those above. By carefully examining
trends and results in each segment, a manager is able to gain
considerable insight into the company's operations viewed from many
different angles. And advanced computer-based information systems are
making it easier and easier to construct such statements and to keep them
continuously current.
|
