Advantages and Disadvantages of Segment Reporting

Written by mark fitzpatrick
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Advantages and Disadvantages of Segment Reporting
Investors may use segment reports instead of a full financial report. (Hemera Technologies/ Images)

According to the Farlex Financial Dictionary, segment reporting is when a business reports its financial activity by sector instead of as a whole. For example, a company that deals with multiple economic sectors, such as industry, agriculture and medicine, could report the annual revenues and losses for each of those individual sectors. There are several advantages to this form of financial disclosure; however, there are also some pitfalls.

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Respects Decentralized Businesses

For many businesses with many sectors, segment reporting is the best way to analyse the profits and losses for a sector. However, segment reporting also respects the fact that many businesses that have multiple sectors are decentralised. In a corporation that has many sectors, there is usually a person or group of people that heads that sector. By segment reporting, the financial analyst is looking at the sector and the sector heads. That way, a financial analyst does not praise or criticise a company itself but can remark on the leadership of that sector's president or sector company leader.

Accurate Assessments

According to the Farlex Financial Dictionary, segment reporting helps investors see the full picture of a company. Say a company has multiple sectors in experimental technology and medicine. This company, in general, sees record profits each quarter. However, the company sees these profits only in its medicinal sector. In fact, its experimental technology sector may be making little to no profits in any quarter. But, for most financial investors and without segment reporting, they might only see the company doing well. But, an investor may be worried that a company only is having profits in one sector and not having successful sectors elsewhere in the company.

Only Applies to Public Companies

The Securities and Exchange Commission (SEC) mandates that all public companies must perform a segment report. They must do this to respect the company's shareholders and investors. However, a private, non-publicly funded company does not need to do a segment report. The Belk School of Business at the University of North Carolina at Charlotte outlines this issue. Although it does not affect various groups such as shareholders or investors, a company may have no incentive to perform a segment report. However, by not performing such a report, a private business may not see how much its sectors are making.

Time and Analysis

Although it is mandated by the SEC, segment reporting may be seen as a large hindrance of time. For example, many losses are shared across sectors. Taxes, especially property taxes if the sectors share one building, is a shared expense between all sectors. The segment report may be redundant in its property tax reporting for each sector if the sectors of a business use the same building. The Belk School of Business also recommends that segment reporting's benefit comes through when a company compares and contrasts between sectors and between each year. However, this analysis could prove time-consuming and make it hard to qualify how each sector is performing, especially if the sector shares resources or capital among the others.

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