Segment Profit/Loss and the Limitations of a “Management Approach”

Michael T Durney; Kurt H Gee; Zac Wiebe

doi:10.2139/ssrn.3779977

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Segment Profit/Loss and the Limitations of a “Management Approach”

Working paper

Open access

Segment Profit/Loss and the Limitations of a “Management Approach”

Michael T Durney, Kurt H Gee and Zac Wiebe

SSRN

02/16/2021

DOI: 10.2139/ssrn.3779977

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https://doi.org/10.2139/ssrn.3779977View

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Abstract

GAAP’s “Management Approach” to segment reporting (ASC 280) requires firms to report segment profit/loss as the measure managers use when allocating resources internally across segments. We examine how this internal resource allocation purpose aligns with the way investors use segment profit/loss measures, a comparison that is relevant for ongoing standard setting efforts to improve the usefulness of segment disclosures. We first survey professional investors and find that they primarily use segment profit/loss for valuation and desire that such measures include persistent income items that are useful for predicting future performance. However, this is inconsistent with how segment profit/loss measures are constructed by managers; in an experiment, managers creating segment profit/loss measures for internal resource allocation focus on the controllability of items by segment managers, regardless of persistence. For a sample of public multi-segment firms from 2003-2018, we collect details on the construction of firms’ segment profit/loss measures and compare them to the same firms’ valuation-focused measures (i.e., non-GAAP earnings and non-GAAP segment profit/loss) in archival analyses. Relative to the non-GAAP measures, segment profit/loss is significantly (i) more likely to include less persistent items (e.g., restructuring charges), (ii) less predictive of future performance, and (iii) less value relevant. Overall, ASC 280’s segment profit/loss suffers from misalignment between its internal use by managers (i.e., internal resource allocation) and its primary external use by investors (i.e., valuation), which limits its usefulness for investors. Our study informs market participants and standard setters considering the relevance of segment disclosures.

Non-GAAP financial measures

segments

FASB

standard setting

Management Approach

value relevance

stewardship

Details

Title: Subtitle: Segment Profit/Loss and the Limitations of a “Management Approach”
Creators: Michael T Durney
Kurt H Gee
Zac Wiebe
Resource Type: Working paper
Publisher: SSRN
DOI: 10.2139/ssrn.3779977
Number of pages: 57 pages
Language: English
Date posted: 02/16/2021
Date updated: 02/29/2024
Academic Unit: Accounting
Record Identifier: 9984420925402771

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