New FASB Segment Accounting Rules Carry Big Implications for Using Non-GAAP Measures

Accountants are thinking about the FASB’s new segment reporting rules that take effect this year, mindful of the implications the rules hold for using non-GAAP measures when reporting on earnings, some say.

A non-GAAP measure is an accounting term that refers to a number that is not calculated in accordance with how Generally Accepted Accounting Principles (GAAP) say they are to be reported. Although these measures may provide more information to investors, if not calculated in accordance with GAAP, they will be subject to SEC rules and external audit – a notable development, according to practitioners.

“The SEC’s staff have provided their view that additional optional measures of segment profit or loss, beyond the single measure required to be disclosed under the standard, would be considered a non-GAAP financial measure (if not calculated in accordance with GAAP) because that measure would not qualify for the exception in the SEC’s non-GAAP financial measures requirements,” said Rich Brady, IMA’s (Institute of Management Accountants’) Global Board Chair and CEO of the American Society of Military Comptrollers.

The FASB standard requires public companies to disclose at least one measure of segment profit or loss that is most consistent with the consolidated financial statement or GAAP. The standard also allows public companies to disclose more than one measure of segment profit or loss such as a non-GAAP measure if it is used by the chief operating decision-maker (CODM).

An example is: if management uses gross profit, as well as Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) as the measures of segment profit or loss.

“The public entity could only disclose gross profit since it represents the measure most consistent with the amounts included in its consolidated financial statements, or it could disclose gross profit and EBITDA, but it may not only disclose EBITDA,” Brady explained. Further, “regulations stipulate specific presentation, disclosure, and reconciliation requirements; prohibitions on certain adjustments; and a prohibition on the inclusion of a non-GAAP financial measure in the financial statements, including the footnotes,” he said.

Non-GAAP measures are popular with finance chiefs because they enable them to provide a more complete picture of their business operations. Critics have said that such measures encourage companies to paint a rosier picture of their financial performance than the industry standard of rules developed by the FASB.

Investors Waiting to See

The FASB issued the new rules last year as Accounting Standards Update (ASU) No. 2023-07, Segment Reporting (Topic 280): Improvements To Reportable Segment Disclosures, after hearing from the investment community that segment information is critical to their understanding of public companies’ business activities.

That information enables them to understand a company’s overall performance and assist them in making their own evaluations of that performance. The board addressed this feedback to provide investors with more decision-useful information about the reportable segments of a company under the management approach.

Those results remain to be seen, investors said on February 15, 2024.

“I think we have to wait and see how the disclosures are presented by the companies,” Security Analyst Stephen Percoco of Lark Research, said. “And I had hoped that FASB would integrate the standard to make it consistent with the new disclosures that are likely to be required for the disaggregation of income statement expenses project,” he said. “It doesn’t seem like that’s going to happen, so it really is up to the companies to make it all consistent and relevant, and I guess we’ll just have to see whether that happens and how it happens.”

Must Recast for Three Years

The rules take effect for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Accountants noted the adoption process that is needed, requiring years of prior information to be gathered.

“The new standard is required to be adopted retrospectively,” Iris Chan, accounting advisory partner, at CrossCountry Consulting, said. “Meaning upon adoption, the public company will generally need to recast or update its segment footnote for all years presented (i.e., three years in most cases) based on the current year presentation even if segment expenses or other profit measures were different from those presented to the Chief Operating Decision Maker – CODM – in previous years.”

The standard applies to all public companies that are required to report segment information in accordance with Topic 280, Segment Reporting.

The other main provisions require that a public company:

• disclose, on an annual and interim basis, significant segment expenses that are regularly provided to the CODM and included within each reported measure of segment profit or loss.
• disclose, on an annual and interim basis, an amount for other segment items by reportable segment and a description of its composition. The other segment items category is the difference between segment revenue less the significant expenses disclosed and each reported measure of segment profit or loss.
• provide all annual disclosures about a reportable segment’s profit or loss and assets currently required by Topic 280 in interim periods.
• disclose the title and position of the CODM and an explanation of how the CODM uses the reported measure(s) of segment profit or loss in assessing segment performance and deciding how to allocate resources.
• that has a single reportable segment provide all the disclosures required by the new guidance and all existing segment disclosures in Topic 280.