Quarterly report pursuant to Section 13 or 15(d)

OPERATING SEGMENTS

v3.5.0.2
OPERATING SEGMENTS
 6 Months Ended
Jul. 03, 2016
Segment Reporting [Abstract]  
OPERATING SEGMENTS
NOTE 13. OPERATING SEGMENTS
Operating segments under GAAP are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the Chief Operating Decision Maker (CODM), or decision-making group, in deciding how to allocate resources and in assessing performance. Our CODM is the Chief Operating Officer.
We use segment EBIT (defined as earnings before interest expense, income taxes and noncontrolling interests) as a primary basis for the CODM to evaluate the performance of each of our operating segments. Segment amounts exclude certain expenses not specifically identifiable to segments.
As previously announced, beginning with the second quarter of 2016, we realigned certain of our reportable segments to be consistent with changes to our organizational structure and how the CODM monitors the performance of our segments. We reorganized our business to combine our Power Generation segment and our high horsepower engine business to create the new Power Systems segment. Our reportable operating segments consist of: Engine, Distribution, Components and Power Systems. We began to report results for our new reporting structure in the second quarter of 2016 and also reflected this change for historical periods.
We allocate certain common costs and expenses, primarily corporate functions, among segments. These include certain costs and expenses of shared services, such as information technology, human resources, legal, finance and supply chain management. In addition to the reorganization noted above, we reevaluated the allocation of these costs, considering the new segment structure created in April 2016 and adjusted our allocation methodology accordingly. The revised methodology, which is based on a combination of relative segment sales and relative service usage levels, is effective for the periods beginning after January 1, 2016 and resulted in the revision of our segment operating results, including segment EBIT, for all four segments for the first quarter of 2016 with a greater share of costs allocated to the Distribution and Components segments than in previous years. Prior periods were not revised for the new allocation methodology. These changes had no impact on our consolidated results.
Our new reporting structure is organized according to the products and markets each segment serves. The Engine segment produces engines (15 liters and less in size) and associated parts for sale to customers in on-highway and various off-highway markets. Our engines are used in trucks of all sizes, buses and recreational vehicles, as well as in various industrial applications, including construction, agriculture, power generation systems and other off-highway applications. The Distribution segment includes wholly-owned and partially-owned distributorships engaged in wholesaling engines, generator sets and service parts, as well as performing service and repair activities on our products and maintaining relationships with various OEMs throughout the world. The Components segment sells filtration products, aftertreatment systems, turbochargers and fuel systems. The Power Systems segment is an integrated power provider, which designs, manufactures and sells engines (16 liters and larger) for industrial applications (including mining, oil and gas and marine), standby and prime power generator sets, alternators and other power components.
The accounting policies of our operating segments are the same as those applied in our Condensed Consolidated Financial Statements. We prepared the financial results of our operating segments on a basis that is consistent with the manner in which we internally disaggregate financial information to assist in making internal operating decisions. As noted above, we allocate certain common costs and expenses, primarily corporate functions, among segments. We do not allocate debt-related items, actuarial gains or losses, prior service costs or credits, changes in cash surrender value of corporate owned life insurance or income taxes to individual segments. Segment EBIT may not be consistent with measures used by other companies.
Summarized financial information regarding our reportable operating segments for the three and six month periods is shown in the table below:
In millions
 
Engine
 
Distribution
 
Components
 
Power Systems
 
Non-segment
Items (1)
 
Total
Three months ended July 3, 2016
 
 

 
 
 
 

 
 

 
 

 
 

External sales
 
$
1,504

 
$
1,538

 
$
933

 
$
553

 
$
—

 
$
4,528

Intersegment sales
 
498

 
6

 
346

 
368

 
(1,218
)
 
—

Total sales
 
2,002

 
1,544

 
1,279

 
921

 
(1,218
)
 
4,528

Depreciation and amortization(2)
 
41

 
29

 
32

 
29

 
—

 
131

Research, development and engineering expenses
 
53

 
3

 
51

 
48

 
—

 
155

Equity, royalty and interest income from investees
 
46

 
19

 
12

 
11

 
—

 
88

Interest income
 
3

 
1

 
1

 
1

 
—

 
6

Segment EBIT
 
206

(3) 
87

 
190

 
90

 
18

 
591

 
 
 
 
 
 
 
 
 
 
 
 
 
Three months ended June 28, 2015
 
 

 
 

 
 

 
 

 
 

 
 

External sales
 
$
1,834

 
$
1,487

 
$
1,017

 
$
677

 
$
—

 
$
5,015

Intersegment sales
 
491

 
8

 
380

 
420

 
(1,299
)
 
—

Total sales
 
2,325

 
1,495

 
1,397

 
1,097

 
(1,299
)
 
5,015

Depreciation and amortization(2)
 
47

 
25

 
28

 
26

 
—

 
126

Research, development and engineering expenses
 
53

 
3

 
57

 
53

 
—

 
166

Equity, royalty and interest income from investees
 
51

 
21

 
8

 
14

 
—

 
94

Interest income
 
2

 
1

 
1

 
2

 
—

 
6

Segment EBIT
 
278

 
113

 
223

 
127

 
(20
)
 
721

 
 
 
 
 
 
 
 
 
 
 
 
 
Six months ended July 3, 2016
 
 

 
 

 
 

 
 

 
 

 
 

External sales
 
$
2,993

 
$
2,996

 
$
1,830

 
$
1,000

 
$
—

 
$
8,819

Intersegment sales
 
985

 
11

 
686

 
729

 
(2,411
)
 
—

Total sales
 
3,978

 
3,007

 
2,516

 
1,729

 
(2,411
)
 
8,819

Depreciation and amortization(2)
 
80

 
57

 
63

 
58

 
—

 
258

Research, development and engineering expenses
 
110

 
7

 
107

 
97

 
—

 
321

Equity, royalty and interest income from investees
 
82

 
37

 
20

 
21

 
—

 
160

Interest income
 
5

 
2

 
2

 
3

 
—

 
12

Segment EBIT
 
403

(3) 
174

 
353

 
136

 
9

 
1,075

 
 
 
 
 
 
 
 
 
 
 
 
 
Six months ended June 28, 2015
 
 

 
 

 
 

 
 

 
 

 
 

External sales
 
$
3,523

 
$
2,956

 
$
1,948

 
$
1,297

 
$
—

 
$
9,724

Intersegment sales
 
947

 
15

 
748

 
802

 
(2,512
)
 
—

Total sales
 
4,470

 
2,971

 
2,696

 
2,099

 
(2,512
)
 
9,724

Depreciation and amortization(2)
 
93

 
52

 
54

 
54

 
—

 
253

Research, development and engineering expenses
 
122

 
6

 
118

 
115

 
—

 
361

Equity, royalty and interest income from investees
 
74

 
41

 
17

 
30

 
—

 
162

Interest income
 
4

 
2

 
2

 
3

 
—

 
11

Segment EBIT
 
478

 
201

 
418

 
228

 
(42
)
 
1,283

____________________________________
(1) Includes intersegment sales, intersegment profit in inventory eliminations and unallocated corporate expenses. There were no significant unallocated corporate expenses for the three and six months ended July 3, 2016 and June 28, 2015.
(2) Depreciation and amortization as shown on a segment basis excludes the amortization of debt discount and deferred costs included in the Condensed Consolidated Statements of Income as "Interest expense." The amortization of debt discount and deferred costs were $1 million and $1 million for the six months ended July 3, 2016 and June 28, 2015, respectively.
(3) Engine segment EBIT for the three and six months ended July 3, 2016 included an accrual for a loss contingency of $39 million. See Note 10, "COMMITMENTS AND CONTINGENCIES," for additional information.
A reconciliation of our segment information to the corresponding amounts in the Condensed Consolidated Statements of Income is shown in the table below:
 
 
Three months ended
 
Six months ended
In millions
 
July 3,
2016
 
June 28,
2015
 
July 3,
2016
 
June 28,
2015
Total segment EBIT
 
$
591

 
$
721

 
$
1,075

 
$
1,283

Less: Interest expense
 
16

 
17

 
35

 
31

Income before income taxes
 
$
575

 
$
704

 
$
1,040

 
$
1,252