Business Risk Analysis of Wesfarmers Limited

This report gives an overview of the business of Wesfarmers limited with all its segments. The company has significant business risks as it operates in multiple segments. It reported a high intangibles and is prone to changes in commodity prices. The company also has financial risks which can impact its financial statements like interest rate risk and credit risk. The risk mentioned are not exhaustive in nature. This report discusses about the transactions affected and consequently assertions as well. Corporate governance plays a crucial role in the success of the organisation. Some of the key highlights are also mentioned for the same.

CONTENTS
Executive summary…………………………………………………………………..1
Introduction………………………………………………………………………….1
Business overview, operations and industry……………………………………......2-3
Areas of Business risk…………………………………………………………….....3-5
Analytical review of financial statements…………………………………………...5-6
Corporate Governance……………………………………………………………….6-7
Conclusion…………………………………………………………………………….7
References…………………………………………………………………………….8
EXECUTIVE SUMMARY
This report gives an overview of the business of Wesfarmers limited with all its segments.
The company has significant business risks as it operates in multiple segments. It reported a
high intangibles and is prone to changes in commodity prices. The company also has
financial risks which can impact its financial statements like interest rate risk and credit risk.
The risk mentioned are not exhaustive in nature. This report discusses about the transactions
affected and consequently assertions as well. Corporate governance plays a crucial role in the
success of the organisation. Some of the key highlights are also mentioned for the same.
INTRODUCTION
Wesfarmers Limited, an Australian conglomerate with revenue reported for 2018 being $66
billion is engaged in multiple businesses. It operates in the retail as well as industrial
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segment. The company is headquartered in Perth, Australia. The company got listed in
Australian Securities Exchange in 1984 and as per its latest annual report has 217,000
employees. The chairman of the company is Michael Chaney AO, who is the chairman since
June 2015. Rob Scott is the managing director of the company.
a)
BUSINESS OVERVIEW, OPERATIONS AND INDUSTRY
RETAIL
Bunnings – It is a retailer of outdoor living products and home improvement in Australia and
New Zealand. It employs more than 43,000 employees and its stores stock around 45,000
products. The company’s revenue exceeded $12.5bn from this segment. During the year
2018, 10 new stores were opened on a net basis. The company divested its BUKI/Homebase
business in June 2018. (Wesfarmers Annual report, 2018)
Coles – Coles provide fresh food, groceries, general merchandise, liquor, financial services,
and fuel through its stores and online channels. It includes supermarkets, Liquorland, Vintage
Cellars, First Choice Liquor, Spirits hotels, Coles Financial services and Coles online. It
reported a revenue of $39.39 bn. (Wesfarmers Annual report, 2018)
Departmental Stores – It has two further segments, Kmart and Target. Kmart offers
customers apparel and general merchandises at low prices. It also provides retail automotive
services. Target is in clothing, cosmetics, electronics,hardware. Together this segment
reported $8.83bn revenue. On a net basis they opened 5 service centres this year.
(Wesfarmers Annual report, 2018)
Office works – Officeworks is Australia’s retailer and supplier of office products and
solutions. It serves micro, small and medium sized businesses, households and students.
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Office works delivered revenue of $2.14 bn during the year. (Wesfarmers Annual report,
2018)
INDUSTRIALS
Chemicals, energy and fertilisers – The chemicals segments include manufacture and
supply of ammonia, AN, queensland nitrates, PVC resin, vinyls and modwood. It reported
revenue of $1.83bn. The earnings reported were 1.3% lower than prior year,
Industrial and Safety – It operates four main businesses. Blackwoods, Workwear Group,
Coregas and Greencap. Blackwoods provides industrial supplies, Workwear provides
industrial and corporate workwear, Coregas provides medical gases, Greencap is an expert
risk management. It generated a revenue of $1.75bn. (Wesfarmers Annual report, 2018)
Resources – It comprises of coal mines where coal is extracted and sold. Revenue generated
was $1.69bn. The coal is primarily exported to Japan and North Asia. During the current year
the company approved the sale of Curragh coal mine in Queensland for $700 mn and booked
gain of $123 million. (Wesfarmers Annual report, 2018)
b)
AREAS OF BUSINESS RISK
Risk to a company in terms of business can be internal as well as external. A list of
business risk are given below -
Labour strikes risk – Employee safety is an important factor for every organisation.
Although most of the function’s in today’s industry are using automated functions but still some
functions still require labour. Labour demanding for higher wages or lower working hours may lead
to labour unrest. Such labour unrest can disturb the functioning of the organisation. Child labour,
illegal labour can cause serious problems since the company is also engaged in mining industry. The
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transactions affected would be employee benefits expense. The company reported employee
benefit expense of $9.375 bn. An increase in 5% of employee benefit expense can wipe off 50% of
profits for the company. The assertions affected would be completeness and occurrence. (Chapelle
, 2017) (Wesfarmers Annual report, 2018)
Quality risk – Since the company provides a wide range of apparels and other branded
products through departmental stores, it must comply with the quality promised by the
company. If not complied it can lead to increased product recalls. The transactions that would
be affected is revenue along with raw materials and inventory. The assertions affected
would be completeness. Revenue reported was $66.88bn with raw material and inventory
cost being ~$45.71bn which comes to around 68% of costs. Product recalls can increase cost
of inventory even further. (Chapelle , 2017) (Wesfarmers Annual report, 2018)
Legal and regulatory risk – The coal mine industry and industrial segment is highly
regulated by regulated authorities. It can face potential lawsuits from customers, suppliers
along with government if regulations are not complied with. The balances that would be
affected are contingencies and other expenses since legal costs would increase. Any non-
compliance can be catastrophic for the company. The assertions affected would be
completeness and accuracy. The company reported contingencies of $0.678bn. Legal events
can wipe off the company’s profits. (Chapelle , 2017) (Wesfarmers Annual report, 2018)
High Intangibles risk – The company reported ~48% if its assets as intangibles. Any bad
event for the company or bad phase can badly impact its operations and hence can lead to
loss of goodwill. The Coles segment leads the intangibles section. The balances that would be
affected are goodwill and intangibles in balance sheet. Also the amortisation transactions
would be affected. The assertions affected would be existence and rights & obligations.
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Any goodwill write off can further create problems regarding debt covenants. (Chapelle ,
2017) (Wesfarmers Annual report, 2018)
Increase in market competition – The retail segment in which the company operates is a
highly competitive industry. The competition is primarily more price based rather than
product based except for Coles. Any new competitor or aggressive competition can severely
affect the company’s revenues and profits. The transactions affected would be sales. The
assertions affected would be existence and completeness. More than 90% of the company’s
revenues came from retail segment which is highly competitive in nature. (Chapelle , 2017)
(Wesfarmers Annual report, 2018)
c)
ANALYTICAL REVIEW OF FINANCIAL STATEMENTS
Interest rate risk - Interest rate risk for the company is the risk which the company faces if the
interest rates rise and this leads to higher borrowing costs for the company. Interest rate risk can
also lead to higher cost of capital for the company. The higher interest rate payments lead to higher
debt for the company as compared to equity. The debt to equity ratio falls which may lead to the
company to default. The company reported fixed rate financial liabilities worth $2.81 bn fixed rate
borrowing for which weighted average interest rate is 5.53%. The variable financial liabilities were
$1.314 bn. The weighted average variable interest rate was 2.63%. On a totality basis, the weighted
average effective interest rate was 4.61%. Any increase or decrease in 100bps of Australian variable
rates can lead to decrease or increase in profit of 7 million and ~42 million on equity. The balance
and transactions that would be affected are financial liabilities and Interest expense. The
assertions affected would be completeness. (Lam, 2017) (Wesfarmers Annual report, 2018)
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Commodity price risk – The Company derives its revenue from coal operations and also purchases
crude brent oil as its input. Any rise in crude oil prices significantly and fall in coal prices in the
international market can affect the company’s revenue as well as cost of production. The industrials
segment would take a hit. The company reported revenue from resources being $3.91 bn from
resources segment. The increase use of renewable energy sources and climate change can lead to
customers not choosing coal for their consumption. The assertions affected would be completeness
and existence. The balances and transactions affected would be revenue and cost of materials.
(Lam, 2017) (Wesfarmers Annual report, 2018)
Credit and Liquidity Risk – Any inability of its debtor to satisfy its obligation can lead to
credit risk. The company has a policy of credit upto 30 days from the date of invoice. The
credit risk lies from operating activities and financial activities being deposits from financial
institutions. Liquidity risk refers to not having enough cash in order to fund the upcoming
obligations. Coles, Bunnings and Industrials segment comprised 80% of credit exposure lead
by Coles being ~35%. The company also has contingent liabilities worth 0.678bn and
operating lease commitments of 18.37bn in the future. Any stressful event in recovering any
money, or stress in cash generating ability can put a company into liquidity crisis. The
balances affected would be Accounts Receivables and provisions. The assertions affected
would be accuracy and occurrence. (Lam, 2017) (Wesfarmers Annual report, 2018)
d)
CORPORATE GOVERNANCE
The following were the key highlights during the Financial year 2018 –
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The board approved the demerger of Coles and Steven Gain will be appointed as next
Managing Director. The Board comprised of nine directors of which eight were non –
executive directors. The company follows a policy of electing the chairman from
Nonexecutive directors. The company has established a Nomination and Remuneration
committee which takes into consideration the qualifications as well as remuneration of the
directors. It composes of all nonexecutive directors of which majority were independent
nonexecutive directors. (Wesfarmers Corporate Governance statement, 2018)
The Audit and risk committee takes the responsibilities of financial compliance. It
composes of majority of independent nonexecutive directors.
The company has established conflicts of interest policy, securities trading policy, gender
diversity policy, whistleblower policy in order to have better corporate governance.
The company has linked remuneration to the business performance of the company. The
remuneration mix was 25% fix and 75% KEEPP (Key executive equity performance
plan). (Wesfarmers Corporate Governance statement, 2018)
The overall control environment seems to be reliable since most of the committees are lead
by independent nonexecutive directors.
CONCLUSION
Overall the company is dependent on its retail segment for its revenues. The notes to financial
statement and being relatively quite less levered, the company’s health looks good. Risk of
material misstatements arise in every company but the same can be reduced to a low level.
The auditors have also given an unmodified opinion for the same.
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REFERENCES
Chapelle A., (2017) Reflections on Operational Risk Management
Lam J., (2017) Implementing Enterprise Risk Management : From Methods to Applications
Wesfarmers Corporate Governance statement (2018) Retrieved May 18, 2019 from
https://www.wesfarmers.com.au/who-we-are/corporate-governance
Wesfarmers Limited Annual report (2018). Retrieved May 18, 2019 from
https://www.wesfarmers.com.au/investor-centre/company-performance-news/reports
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