Dick Smith Collapse: Corporate Governance Failure

This assignment delves into the catastrophic collapse of Dick Smith Electronics, highlighting the significant corporate governance failures that contributed to its downfall. It scrutinizes the roles and responsibilities of the audit committee and internal control systems in preventing such a disastrous outcome. Drawing on various sources including news articles, academic research, and legal documents, the analysis identifies specific shortcomings in financial reporting, risk management, and ethical conduct that ultimately led to Dick Smith's demise.

Running Head: REPORT ON DICK SMITH LIQUIDATION
Report on Dick Smith liquidation
Auditing and Assurance

Report on Dick Smith liquidation 1
Contents
Introduction...........................................................................................................................................2
Internal Control Weaknesses.................................................................................................................2
Inventory Management and Rebate Strategies.......................................................................................4
Key Stakeholders and their Returns.......................................................................................................5
Violation of Ethical Auditing Standards................................................................................................7
Evaluation of the Annual Reports of Dick Smith Holdings...................................................................9
Inherent Risk Factors...........................................................................................................................11
Conclusion...........................................................................................................................................13
References...........................................................................................................................................14

Report on Dick Smith liquidation 2
Introduction
Dick Smith Holdings was a wide- chain of retail stores in Australia, which deals in
consumer electronics. The company was founded in 1968 by a well-known entrepreneur Dick
Smith. In 1981, the founder sold 60% of its shares to Woolworths limited and after two years
that is in 1983, the remaining 40% was also sold to Woolworths. After having almost 30
years of ownership, Woolworths sold the company to an investment firm operating in
Australia named as Anchorage Capital Partners in November 2012. The sale price was $115
and only $10-15 million were being paid by Anchorage with their own money and the
remaining amount was derived through the liquidation of the company’s assets (Anon, n.d.).
Later in 2013, DSH issued the offer to the public for sale of share at $2.20 each. This
initial public offering was highly successful and resulted in the capitalization of the market of
$520 million. The company went into liquidation after two years providing various causes for
its failure such as over purchasing of the inventory, the surplus it earned in 2013 get invested
in its expansion plan which was not successfully implemented, changes in the consumer
preferences and many more to it (Anchorage Capital, n.d.). This report contain the analysis of
the different reasons which led to the liquidation of the company. Evaluation of internal
control measures, key auditing standards and various other things are mentioned in the report
which gives an overview about the dissolution of Dick Smith Holdings.
Internal Control Weaknesses
Weakness in internal control system of DSH was also a reason for its failure. Lack of
adequate controls in the management of the financials decreased the company’s performance
and became a cause for its break down (Goh, 2009). Internal control issues with dick smith

Report on Dick Smith liquidation 3
were that they provided dissimilar financial information to the investors on irregular intervals
of time. The policies adopted by the company gave them the uneconomic results and the
clashes between the directors or the conflicts of interest also became the reason for weakness
in internal control. Incompatible accounting of the transactions was done. Proper
documentation was not there due to which it was impossible to track who was responsible for
which action, final accounts were not prepared as per Australian standards of accounting and
tracking of employees’ authorization for certain functions was neglected. All these factors
became the weakness of the system and led to the liquidation of DSH (Mahadeen et al. 2016).
Final accounts of DSH was audited by the auditors of Deloitte. The main internal control
weakness was that the directors of DSH rely on the audit reports provided by the auditors
without giving a management review to them. Falsifications of the accounts was done and
manipulations were being there in the figures of final statements. According to the case filed
in NSW Supreme Court, Abboud puts a cross claim on Deloitte for the damages and the
involvement in the case. The financial statements of 2014 and 2015 of DSH was audited by
the Deloitte. The claim stated that during the period, the auditors did not aware the
company’s directors about the issues related to the inventory control and accounting
treatment of the rebates. The documents also said that the decisions were taken on the basis
of the description of the audit report of 2015, given by Deloitte, which did not show any kind
of variances or errors in the control system, calculation of rebates and recording them
(Spencer, 2017). Manipulations in the rebates led to the rapid increase in the sales of the
company in year 2015 which raises various allegations on DSH that if management had
performed well then there would have been a loss or decrease in profits in 2015. Sudden
increase in revenues forces the company to pay dividends which they actually cannot afford.
It was also said that the accounting done for rebates was not according to the Australian
Accounting Standards. The reports showed the profits, EBIT, depreciation at an increased

Report on Dick Smith liquidation 4
level than their actual value which was not in compliance with the Australian standards
particularly AASB 102. Many questions were raised on Deloitte as it did the testing of the
stock. It said in its defence that they did not find any errors and differences in the report on
the basis of the work done by them. The reports prepared by them showed that there was no
reason to say that the financial information was not presented in a fair manner and also the
forecast done was unreasonable (ABC News, 2016).
Inventory Management and Rebate Strategies
Inventory is the stock of raw materials and goods which are used at different level of
productions. For the successful operations of the business, it became necessary to control the
inventory with the help of proper policies, tools and techniques of control (Bendavid, et al.
2017). Inventory management means managing and controlling the inventory at different
stages to ensure the optimum utilisation of stock with the reduced cost. It also helps the
company in maintaining stability in their financial position (Shubham and Kumar, 2017;
Ashrafzadeh, et al. 2017). As far as DSH is concerned, one of the major reason for its
breakdown is its improper or poor inventory management policies. The decisions taken at that
time related to inventory were not appropriate and also not as per the customer demand which
eventually led to the obsolete and unsaleable stock. Changes in the consumer preferences, left
DSH with a high level non-tradable stock. Falsified policies were accepted by the company.
McGrath Nicol states in his report that even after facing a year by year decline, decision
related to the purchasing were made on bases of rebates rather than consumer demand.
Inventory tends to grow and new stores were opened irrespective of the decline in sales of the
stores. Despite this reason of “bad stock”, the directors and other officials of the company
failed at implementing proper systems and procedure to control the inventory and to monitor
the purchase.

Report on Dick Smith liquidation 5
The rebate strategies which were used by Dick Smith was to choose the products which
maximise the rebates on the money paid by the suppliers for the promotion and stock of their
good, to the company irrespective of what customer wanted to purchase. It was the only
company who got accused for showing its rebates as profits before even selling the product. It
violated the accounting standards. Anchorage Capital Partners, the equity firm who acquired
the company said that it carried forward the legacy of the formal owner Woolworth’s of
making rebates strategies for the company. It also adopted the same strategies of maximising
the rebates (Chung, 2016; The Sydney Morning Herald. 2016). But all this was opposed by
Receivers and managers Ferrier Hodgson who said that company’s dependency on rebates
and other incentives from suppliers had screwed up the buying capacity and practice of the
management and also led to the formation of unused and obsolete inventory. The accounting
of the rebates was done by the auditors of Deloitte and it was their responsibility to correctly
report it in the accounts. Apart from that the stock turnover also raised questions on the
company.
The former chief executive of Dick Smith Nick Abboud gave a statement to the court,
defending the rebates policies of the company. He said that it was a job of the suppliers to
pay for the promotion of the product in order to sell it in the market. He mentioned that the
strategy was not only to buy the product but also to make sure that the supplier provide the
full support in the promotion of the product to sell it (New Zealand Herald, 2016). Many
contradictory statements were given by different people on Dick Smith’s rebate and inventory
management policies. The poor management of inventory and over and above rebates became
one of the reason for the liquidation of Dick Smith Holdings.
Key Stakeholders and their Returns
Stakeholders basically means parties or people who are interested in the performance of
the company or the activities done by them. These include shareholders, employees,

Report on Dick Smith liquidation 6
customers, creditors and so on. Woolworths was the stake holders of Dick Smith initially but
in November 2012 DSH was acquired by Anchorage Capital Partners. It acquired 98% of DS
Sub-Holdings and the remaining 2% was acquired by LMA Investments limited. After
controlling for over one year, DSH became a public company in 2013 through Initial Public
Offerings. It was done to raise the capital and to fund the shares acquisition from Anchorage.
The IPO was successful and the ACP sold majority of its shareholdings to the shareholders of
the newly formed public company. Another stake holders of the company were its secure
lenders that were National Australian Bank (NAB) and HSBC, which were the in charge of
almost whole of the property of DSH. Creditors, suppliers and the employees of the holdings
were also the stakeholders at the time of collapse of Dick Smith Holdings.
As far as the social responsibility of a company is concerned, Dick Smith badly failed at
this part. Social responsibility means that a business should carry those activities which
provides benefits to the society and also earn profits (Vallaster, 2017). It is a responsibility of
the company to give adequate returns to its shareholders and investors. The company should
make sure that timely payment of creditors is done and stakeholders are getting time to time
returns on their investment (Cheng, et al. 2014). The position of the DSH clearly gave an idea
that nothing can be recovered from the company to pay to its stakeholders. Unsecured
creditors were not able to recover their payments as there were no assets left with the
company. It was already advised to the shareholders that they would not get any return on
their investments. After getting into the receivership, the receivers Ferrier Hodgson decided
to shut down its stores leaving thousands of people job less. Many of the shareholders had
lost their investment because DSH did not follow the provisions of corporations act as it was
involved in performing unethical practices related to shares (Foye, 2016). An allegation was
put up on the company by them that in year 2015, the price of share increases which breaches
the Act and a loss or a damage was being suffered by them.

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As per the administrator’s report, the staff of DSH was been paid in their full entitlements
where as banks who were the secure lenders had to face a significant amount of loss in
recovering their debts. But the situation was worst for the unsecured creditors, including
those who were gift card holders and the shareholders who did not get any amount in return
of their investments. The news stated that the two banks NAB and HSBC were the largest
creditors of the DSH before the company went into voluntary administration. It had a debt of
approximate $400 million. The banks were told by the NSW Supreme Court that they also
had to stand in line to get their part of return. Not getting the significant return had an impact
on the banks. They claimed that the former directors of the company failed to reveal the
correct finance information including the rebate strategies. If they had known about these
strategies earlier, they would not have sanctioned the funds to DSH in 2015, which was
further extended by HSBC (Foye, 2017). The former shareholders also file a class action
lawsuit in the Supreme Court in order to compete against the claims put up by the banks for
compensation. So many statements were published commenting on the relationship between
the banks and the companies (Anon, 2017).
Violation of Ethical Auditing Standards
Some ethical standards are mandatory to be maintained while performing the task of
internal audit. The auditor should perform its audit in compliance with some ethical
requirements. The requirements consists of some fundamental principles or code of ethics for
professional accountants given by International Ethics Standards Board (IESB). These
principles provide an auditor a conceptual framework of auditing the financial statements
(Auditing and Assurance Standards Board, 2017). These are Integrity, Objectivity,
Competency, confidentiality and professional behaviour (Compiled Auditing Standard,

Report on Dick Smith liquidation 8
2017). All these key ethical auditing standards were violated by the auditors of DSH and
Anchorage Capital Partners.
 Integrity: It means having the quality of being honest and strong moral values.
Auditors must pursue integrity to establish trust and to make the organisation enable
to rely on the judgement possessed by them. This ethical standard says that auditors
must make the disclosures to the extent of the law and should respect the ethics of the
organisation. DSH auditor’s had breach this standard to a great extent. They did not
provided the information in compliance to law. Improper accounting of the
transactions was done and figures were being manipulated. A wrong view of financial
statements was provided to the organisation, which eventually broke its trust and led
to downfall of the company. No integrity was maintained by the auditors and the
former owner of DSH Anchorage.
 Objectivity: This states that auditor must reveal the material facts to the
organisation and should not involve in any of the activities which include interest
conflicts of the business. Auditors should not accept such things that may weaken
their judgement. Clear objectives of auditing should be there. On part of this, DSH
auditor’s violates this by not disclosing the exact financial position of the company.
They misstated the final accounts and gave a fudge review of the areas examined by
them. Figures were shown at their false values. Due to which decisions taken by the
company went wrong and lead it toward the stage of winding up.
 Confidentiality: Another ethical standard to be followed is to be confidential
about the information gathered at the time of performing audit. Auditor must know
the value of the ownership of the data and should not reveal it without the permission
of appropriate authority. Confidential information include the data about profits, sales
and purchases, equity and debt structure and other financial information. All this was

Report on Dick Smith liquidation 9
not clearly stated by the auditors in the annual report of the company. Important and
confidential information provided gave a falsified view of the position of the
company.
 Competency: Adequate and necessary skills and knowledge is require to do
the task of internal audit. Despite of being very much efficient in their work, having
specialised knowledge and skills, Deloitte’s auditors did not performed their duties
very well. Auditing was not done as per the international standards and decisions
based on the reports provided brought the organisation close to liquidation (The
Institute of Internal auditors Australia, n.d.).
Evaluation of the Annual Reports of Dick Smith Holdings
Summarised Balance Sheet
Particulars Jun-13 Jun-14 Jun-15
$’m $’m $’m
Current Assets
Cash & Equivalents 46.5 29.9 29.5
Trade and other Receivable 10.4 46.7 53.3
Inventory 171 254 293
Other Current Assets 13.5 5.5 14.1
Total Current Assets 241.2 335.9 389.9
Non Current assets
Plant and Equipment 60.3 78.8 92.5
Deferred Tax Assets 42.9 36.5 26.0
Total non-current assets 103.1 115.3 118.5
Total Assets 344.3 451.2 508.4
Current Liabilities
Trade and other Payables -153.3 -247.7 -228.4
Borrowings -70.5
Provisions -16.1 -13.6 -13.3
Other Current Liabilities -2.9 -5.5 -4.3
Total Current Liabilities -172.3 -266.8 -317
Non Current Liabilities

Report on Dick Smith liquidation
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Provisions -13.9 -7.3 -6.1
Lease Liabilities -1.7 -10.1 -16.8
Total Non Current Liabilities -15.6 -17.4 -23
Total Liabilities -187.9 -284.2 -339.4
Net Assets 156.5 166.9 169.1
Equity
Issued Capital 10.0 346.1 346.1
Reserves 6.3 -339.2 -339.4
Retained Earnings 140.2 160.0 162.4
Total Equity 156.5 166.9 169.1
(Source: DS Holdings 2014 Annual Report and 2015 Annual Report)
Most of the items of balance sheet had increased due to the expansion activities done
by the DSH and because of the opening of new retail stores. Such as:
 Level of inventory had increased due to the adoption of rebate strategies and
inauguration of the new stores. This led the situation of unsalable stock within the
company
 Increase in trade debtors was also there due to the increased rebates from
suppliers as stock was purchased.
 Because the decision of expanding the business was taken, it raised the need of
additional furniture and fixture and as a result an increase was there in plant and
equipment of DSH.
 To fund the additional inventory, credit was taken from the suppliers which
increased trade payables from $153 million in 2013 to $220 million in year 2014 and
2015.
 To meet the establishment cost of new stores, borrowings was also increased.
 Every year raise in lease liabilities was also there as different and new
locations were added.
Summarised Income Statements

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11
Particulars Jul-15
Aug-
15 Sep-15 Oct-15 Nov-15 Dec-15 Total
Sales 97 94 131.1 89 85.2 200.1 696.5
Cost of Sales -80 -77 -93.9 -74.1 -131.6 -186.4 -643.1
Gross Profit 17 17 37.2 14.8 -46.4 13.7 53.4
Gross Profit Margin 18% 18% 28% 17% 54% 7% 8%
Opex -17 -16 -32.9 -17.8 -12.7 -71 -167
EBITDA 0 1 4.3 -3 -59.1 -57.3 -113.9
EBITDA Margin 0% 1% 3% -3% -69% -29% -16%
Depreciation -1 -1 -1.7 -1.4 -1.4 -43 -50.2
Interest Expense 0 0 0 0 0 0 -2
Tax 1 0 -0.7 1.4 18 30.1 49.5
Net Profit After Tax -1.3 -0.3 -1.6 -3.4 -42.8 -70.5 -116.7
(Source: DS Holdings 2014 Annual Report and 2015 Annual Report)
 Losses of EBITDA for the six months were $114 million.
 November 2015 and December 2015 reported continuous losses.
 The main reasons for such losses were those estimated sales targets set in dec.
2015 were not met by the DSH. Low profit margin products affected gross profit to a
great extent.
Following information was also recognised:
 DSH came to know that $60 million inventory was written down in November
2015.
 A $14 million lease provision was also made as the cost of retail lease exceeds
the forecasts done for economic benefits.
 DSG had inadequate cash for purchasing the new and high profit margin
products which eventually affected the profitability of the firm.
All these were being recorded and reported in the annual report of Dick Smith
(Asx.com.au. 2015).

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12
Inherent Risk Factors
Inherent risk means an omission or misstatement in the financial statements of an
organisation occurred due to the factors which are not caught during the audit. Risk in
financial report level means possibility of incorrect data in the final accounts that can
affect the several different transactions occurred during a year (Merna and Thani,
2011). Risk factors which had affected DSH at financial report level are:
 Inventory: DSH kept a high level of inventory and the purchasing done was
not according to the consumer demand. This raised the chances of obsolete stock because
it cannot be traded in the market as products were not according to customer taste and
preferences. Adoption of rebate strategies resulted in the creation of bad stock. All this
contributed to a high inherent risk and also lower down the revenue of DSH as the stock
became unsaleable.
 Interest payments: Due to lack of funds, DSH was not able to pay its interest
payments which showed that the position of the company was deteriorating financially. It
was not able to meet its short term liabilities. This risk was also discovered at financial
report level.
 Fraud: It is considered to be the pervasive risk factor as it can be found at all
the levels of organisations. In case of DSH, fraud was one of the risk which had been
done by the auditors and top management on their part respectively. They falsify the
entries recorded and adopted the accounting procedures which were not in accordance
with the Australian Accounting Standards. This is the way it was inherent in financials of
the company and affected the other aspects of the company. It is the main reason for the
company’s break down.
 Misstatement: Another inherent risk which affected the final reports of Dick
Smith was material misstatement. It arose from various sources such as its internal

Report on Dick Smith liquidation
13
control system, inventory management. These were the external factors which forced the
auditors to manipulate the data to meet company’s financial targets. It also showed that
despite of having professional skills and knowledge, auditors mislead the organisation
and its other stakeholders by giving a fake view of the financial position of the company.
All these factors affect and increases the assessment procedure of inherent risk as the
auditor has to evaluate all these risk which can be found at every level and within the
different functions performed in the organisation (Ahimbisibwe, et al. 2015).
Conclusion
The above report concluded that, the key reasons for the liquidation of Dick Smith
Holdings were its poor inventory management, weaken internal control system and
variance in it, rebate strategies, and a falsified disclosure of the company’s financial
position. Auditors were held responsible for not doing the accounting of the transactions
as per the international ethical and auditing standards (The Canberra Times. 2016). Many
statements and claim were made against the company as it was not able to maintain a
sound financial position in the Australian market. The irresponsibility of the directors
and violation of the accounting standards by the auditors results in the severe break down
of the firm.

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14
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