Here is my draft for assignment 2. :)
Step 1
Chapter
4: Analysing Financial Statements
The
opening paragraph was quite succinct and gave me a great understanding of how equity
investing works. All the work we have done so far in this subject has really
solidified for me that financials are important for understanding a company’s
future, and it stands to reason that they would also be a good indicator for
investment purposes. I was quite happy to learn that there are frameworks out
there to help you understand and analyse firms. Not everyone can be a wiz with
financial statements! The idea of restating financials is overwhelming as just
reading them was overwhelming enough. This begs the question, why is it that we
need to restate financials in order to be able to understand and apply them to
our purposes? Wouldn’t you think the people producing them would try and make
them nice and simple for others to understand? It seems like a flaw in the
system. I don’t particularly want to restate a company’s annual report to make
it easier to understand. Already I am thinking I am going to struggle with
restating financials and I have barely even started READING about it, let alone
actually giving it a go. I feel that looking at cash flow would be a great
indicator for a business’s performance as it shows how well the business in
doing in terms of selling their products and services, as opposed to looking at
dividends. My understanding of Free Cash Flow is that it measures the amount of
available cash to the business. If money is tied up in operating procedures, i.e.
a large amount of stock is bought, it means there is less cash readily available
to use on things like expansion and building maintenance, etc. My understanding
so far is that cash is used to create value by expanding business. It means
money is currently tied up but they are expecting a return greater than the
money used, to ultimately create more free cash flow. I wish that symbols used
in equations would logically directly relate to what they mean as in C is cash
flow from operations and I is net cash invested into operating assets. My brain
does not logically link the meaning with the symbol. I have to keep scrolling
up to check what it means. It interrupts my flow of reading and I constantly
have to reread things to make sure I am in the right spot. I feel like I am
having a lot of formulas thrown at me at once and I am having trouble
understanding and differentiating them. All of these concepts are unlike
anything I have ever encountered before and I feel like my brain is just
shutting off and giving up for the day because of this. I am finding this
reading really hard to get through: I’m not really absorbing any of the information
I am reading and am just struggling in general. I knew this day would come in
this subject; it just doesn’t make it any less hard. The fact that this course
so strongly advocates team work and discussing with others ‘grinds my gears’ a
little as I don’t have time to bounce ideas off other people and discuss
problems and solutions with them. I barely have time to make it to all the
lectures and classes. It infuriates me that there is no ‘cookie-cut’ solution
but the solution to this should not then be to make us discuss with each other:
that’s what teachers are for. After reading this chapter, I don’t feel I have a
better idea of how to restate my company’s financials. This may be attributed
to the fact that I am not predominantly a visual learner. I need a combination
of auditory and visual stimuli to retain and learn information. Unfortunately I found the whole chapter to be
boring and difficult to understand, therefore meaning I feel I wasted a good 2
hours of my life. Conceptually it has fantastic points and I have a small
understanding of it all now, although a second read will be necessary.
Step 2
The proceeding information is in
relation to my justification for the classification of activities as financial
or operational in the restating of key financial statements.
Statement of Changes in Equity
Exchange differences arising on the translation of overseas operations:
This I felt was fairly straightforward. This activity is present because the
company has operations in other countries, necessitating currency exchange.
Therefore this activity is classified as operational because it is only present
because the business operates in foreign countries.
Gain on revaluation of properties upon transfer of investment
properties: Upon first glance, I felt it was fairly obvious this was a
financial activity as this was money gained when the properties were revalued
and transferred to investment properties. Investing is a financial activity. To
ensure I was correct, I referred to the relevant note (12 in 2014 report) which
was largely confusing and not that straightforward; however, the table in the
notes appeared to be listing a breakdown of financial activities in relation to
property, plant and equipment so I felt I was right in classifying this as
financial.
Deferred tax liabilities arising on gain on revaluation of properties
upon transfer: These taxes arose due to revaluing properties to be
transferred to investment properties. As this is a decision to transfer an
operational asset (property) to a financial asset (investment property), I
chose to classify this as a financial activity.
Re-measurement of provision for long service payments: This I
classified as an operating activity as staff is considered to be involved in
operations. This is a staff entitlement, classifying it as operations.
Balance Sheet
Property, plant and equipment: This is classified as operational
because property, plant and equipment are all involved in operations such as
manufacturing and distribution.
Prepaid lease payments: I struggled with this for a moment as
leasing is a financial aspect, although from reading note 13 in the 2014 annual
report I determined that it was lease payments for properties used in
operations. Therefore I classified it as operational.
Investment Properties: Investing is a financial undertaking and
doesn’t directly relate to operations; therefore it is classified as financial.
Prepaid rental payments: I wasn’t sure what this could pertain to
until I read the notes. The company has paid its rent for a factory in Thailand
upfront until the year 2024. This therefore relates to operations.
Interest in an associate: I wasn’t really sure what this meant when
I first read it. Upon reading its relevant note (17 of 2012 annual report) it
talked about investing into another company. Investing is a financial activity
so this is therefore financial.
Deferred tax assets: This I had trouble classifying, even after
reading the notes. That was until I realised the note was continued onto the next
page. The continuation talked about comprehensive income and currency realignment;
therefore I determined it to be operational.
Inventories: This was fairly obvious. I classified it operational
because inventory is used in interaction with customers and the product market.
Debtors and other receivables: Also classified as operational
because it involves interactions with customers and product and input markets.
Bills receivable: Again, this is money to be received from
customers making it operational.
Prepaid lease payments: The same as with the prepaid rental
payments, this is operational as it pertains to the prepayment of expenses for
buildings for operations.
Current tax recoverable: Tax is something that is associated with
operating procedures.
Bank balances and cash: As this is a positive figure, this means
that there is no money owed to the bank, it is an asset. If we were to have
owed money to the bank, this would be a financial obligation. As it is an
asset, it is operational.
Creditors and accrued charges: This pertains to money owed to
people. It has most likely arisen due to purchasing materials for operations.
Therefore this is classified as operational.
Current tax payable: This is operational.
Bank borrowings and other liabilities: Borrowing money from a bank
is a financial activity. Although the money borrowed may be used for
operational activities, the actual bank borrowings are considered financial,
not operational. Upon reading the relevant note (22 in 2012 annual report) I
couldn’t determine there were any other liabilities other than the bank loan.
Obligations under finance leases: Due to the company financing
money to pay leases, this makes this a financial activity as it pertains to the
money borrowed to pay the lease, the borrowed money being the obligation.
Retirement benefit obligations: This is an employee entitlement,
therefore it is operational.
Deferred tax liability: This is operational as discussed previously
with tax.
Income Statement
Cost of Sales: This is fairly self-explanatory. Cost of sales
relates to operations.
Other income and gains: This was a bit tricky. There was no note
for me to refer to and it doesn’t explain where the income and gains are coming
from: it could be investment activities or it could be something to do with operations.
Without knowing, I cannot 100% for certain classify this, but for my purposes I
have said it is operational as this is the most likely scenario.
Gain on disposal of properties: I have said this is financial
because this does not directly relate to operations as Top Form is not in the
business of selling properties. Also, according to chapter 4 of the study
guide, financial activities relate to decisions about which operating assets to
acquire or sell.
Selling and distribution expenses: In the lectures, Maria said all
expenses should be operational so this was my initial reasoning for classifying
this. My revised reasoning is because selling and distributing products is part
of business operations.
General and administrative expenses: Initial reasoning was because
expenses should be operational. My assumption is that these expenses pertain to
administration of operations.
Finance Costs: my initial assumption was that this is financial as
finance is in the title, but this isn’t reasoning enough. I read the relevant
note (note 6 in 2014 annual report) and determined this was interest that was
owed to the bank due to having borrowed money. This makes is a financial
activity.
Exchange differences arising on the translation of overseas operations:
This I felt was fairly straightforward. This activity is present because the
company has operations in other countries, necessitating currency exchange.
Therefore this activity is classified as operational because it is only present
because the business operates in foreign countries.
Gain on revaluation of properties upon transfer of investment
properties: Upon first glance, I felt it was fairly obvious this was a
financial activity as this was money gained when the properties were revalued and
transferred to investment properties. Investing is a financial activity. To
ensure I was correct, I referred to the relevant note (12 in 2014 report) which
was largely confusing and not that straightforward; however, the table in the
notes appeared to be listing a breakdown of financial activities in relation to
property, plant and equipment so I felt I was right in classifying this as
financial.
Deferred tax liabilities arising on gain on revaluation of properties
upon transfer: These taxes arose due to revaluing properties to be
transferred to investment properties. As this is a decision to transfer an
operational asset (property) to a financial asset (investment property), I
chose to classify this as a financial activity.
Re-measurement of provision for long service payments: This I
classified as an operating activity as staff is considered to be involved in
operations. This is a staff entitlement, classifying it as operations.
My issues or concerns whilst restating
I will first say that this was a
massively time consuming task which made me backtrack and doubt myself multiple
times and in the end I’m still not even sure if I did it right. I kept
including things in headings when they should have been in separate ones and
ultimately struggled to do this task. I read and re-read the study guide over
and over again to help cement what it was I was supposed to be doing. Any
people I talked to said the same thing and in the end we weren’t able to help
each other, we just went with our gut as to whether we were right or not. The
first two statements were quite straightforward; it was just the last one, the
income statement that was majorly confusing. At this point, if I never have to
see another financial statement again, I will be one happy lady. My biggest issue
was that my statements were so different to the example of Ryman Healthcare
that it was quite difficult to draw help from the examples.
Step 3
I couldn’t find a listing of
products on Top Forms website so I assumed three of their products to be:
·
Bra
o
Price: $60
o
Variable cost I will be assuming: $20
o
·
Underwear
o
Price: $25
o
Variable cost I will be assuming: $10
o
·
Corset
o
Price: $100
o
Variable cost I will be assuming: $30
o
The reason different product’s
contribution margins may be different is because it takes a different amount of
time or resources to make each certain product. For example, a corset takes
more time to design/make because it is larger than a bra and has more detail,
whilst also using more material. A pair of underwear may take even less time
and resources than a bra because it is a smaller garment and would use less
material and time. For a product that has a higher variable cost, a business
may sell it for a higher price to compensate for the larger amount of effort
that has gone into it. A firm may produce a range of products with different
contribution margins because having a large range of products appeals to a
larger niche market. A product with a small variable cost can be sold for less
because it takes a lesser amount of resources to produce, therefore it can be
mass produced and many can be moved quickly, accommodating for that smaller
contribution margin. A product with a larger contribution margin may not move
as often because of price, but when it is sold, it contributes a high amount of
income to the business. The reason businesses would not produce only products
with a high contribution margin is because that may mean you are charging too
much for a low cost product, leading to customers looking elsewhere for lower
prices. A higher contribution margin may also mean that you are not allowing
enough variable costs to be allocated to the product, resulting in an inferior
product.
A resource constraint Top Form may
face is material. Top Form may utilise many kinds of materials but one material
that may be a little difficult to attain is silk. Silk is used in lots of
intimate apparel but can be quite expensive/hard to attain as it is made from
silk worms and it is a very arduous process turning silk worms into silk. A
market constraint they may face is trying to sell to the more ‘prude-ish’
countries. Bras and underwear are no longer just a function item. People are
willing to pay a higher price for a more ‘fancy’ or ‘appealing’ undergarment.
Countries where sexual oppression is rife would prohibit Top Form from entering
the market or perhaps limit the range of products they provide.
The resource constraint would
limit the production of silk products. Silk products can usually be sold at a
higher contribution margin because people are willing to pay a lot of money for
genuine silk products. If any of the three above named products were to be made
from silk, a smaller number of them would have to be made, meaning a missed
profitable opportunity because of a resource constraint. Although, because silk
is considered to be rare, it might drive up the consumer want for the product
because it is seen as rare and valuable, meaning to company could potentially
get away with selling the product at an even higher price. The identified
market constraint would influence how many (if any) corsets or higher priced,
fancier bras were to be made because they would not sell in the given market
place.
