Valuation of Wesfarmers' Acquisitions: A Goodwill Story

Wesfarmers Limited has acquired Homebase business for $665 million in 2016 and recorded goodwill of $1,018 million. The company also reported an impairment of $1208 million on the goodwill amount. Additionally, Wesfarmers has many foreign subsidiaries including Coles, Target and Bunnings Warehouse, and reports financial transactions denominated in Australian dollars using average exchange rates for the year. The company's consolidated financial statements show a net income after tax of $407 million, total assets of $40,783 million, and shareholder equity of $22,949 million. Ratio analysis reveals a return on assets of 1.00%, return on equity of 1.77%, current ratio of 0.93, and assets turnover ratio of 1.62.

Memo to Board of Directors
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Date: 12 September 2017
To: Board of Directors
From:
Subject: Technical aspects of consolidation
Proposal
This memorandum seeks to explain the technical aspects related to consolidation that
board of directors needs to consider while developing the financial reports. The term
consolidation of financial statements refers to integrating the financial reports of all
subsidiaries of a multinational organization under the parent company. It has become
extremely important for the business companies operating at a global level for constantly
adapt their business procedures as per the needs and demands of international market place.
As such, development and presentation of consolidated financial statements has become
essential for companies operating in global market place for improving their business
performance. This memo has explained the various technical aspects related to the
consolidation process to the board of directors for assisting them to improve the quality of
financial reporting.
Background
Composition of Group and its Major Operations
The consolidation basis requires primarily identifying the composition of a group that
can include subsidiaries, joint ventures and operations, associates. The subsidiaries refer to a
company that is complete owned by the parent company nada such its financial reports are
fully consolidated with the main group (Hove, 2006). The joint venture refers to tow or more
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entities that are controlled by a third party and each business entity retain their individual
identities (Annual Report, 2016). The joint operations refer to an operational partnership
between two or more business entities while associates are the partly owned companies of the
group. Wesfarmers Limited, a recognized Australian conglomerate, listed on ASX and
involved in retail of chemicals, fertilizers, coal mining and industrial products (Hove, 2006).
The Wesfarmers Group consists of associates, joint operations, joint ventures and
subsidiaries.
The joint operations of the company include Sodium Cyanide, Bengala and ISPT
while it has joint venture with BPO NO 1 Pty Ltd. The major subsidiaries of the company are
Coles Supermarkets, Bunnings Warehouse and many others (Annual Report, 2016).
(Source: http://media.corporate-ir.net/media_files/IROL/14/144042/wesfarmers_sr/
wesfarmers/group.html )
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Need to prepare the Consolidation Financial Statements
The Companies Act requires companies to develop the consolidated financial reports
for integrating the financial results of all its subsidiaries as a whole (AASB 127, 2007). As
the subsidiaries prepare their own financial report but in order to provide the users of the
annual report the complete performance of the company it is important to include the
financial results of the subsidiaries together with the own financial results to come with the
consolidation of the financial results. As we know the consolidations of the financial
statements are presented for the group as a whole and group means company it-self and
wholly owned subsidiaries (AASB 127, 2007). Subsidiaries refer to the separate legal entity
who prepares its own financial accounts but it has no existence without its holding company.
It is very important to fully own by the entity (Annual Report, 2016).
Funds used by the company to pay the acquisition amount
The group of companies that are acquired by the Wesfarmers are given above and
they are acquired the management board of Wesfarmers through various sources of funds.
While making the acquisition Wesfarmers uses various sources of funds to pay the sales
consideration for the acquired entities (Annual Report, 2016). The main sources of funds are
share capital, debentures or bonds and issue of bonus shares. The subsidiaries acquired by the
Wesfarmers are now the fully owned by the Wesfarmers itself and there is no other owner of
such subsidiaries (Hove, 2006).
In the recent year company has acquired HomeBase and to finance the acquisition
amount Wesfarmers has diversified its funding sources. In February 2016, company has
established 515 million pounds of three year bank facilities and 115 million pound of one
year bank facility. This has provided the base to fund the Homebase acquisition and also
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provide working capital. So it can also be said that company has used debt fund to finance the
acquisition of Homebase acquisition (Annual Report, 2016).
Cash Capital Expenditure
Subsidiaries Acquired 2016 2015
$M $M
Coles $ 797.00 $ 941.00
Home Improvement $ 538.00 $ 711.00
Kmart $ 163.00 $ 169.00
Target $ 129.00 $ 127.00
Officeworks $ 40.00 $ 39.00
WesCEF $ 60.00 $ 56.00
Industrial and Safety $ 52.00 $ 57.00
Resources $ 116.00 $ 137.00
Other $ 4.00 $ 2.00
Total Cash Expenses $ 1,899.00 $ 2,239.00
Less: Sale of Property, plant and Equipment $ -563.00 $ -687.00
Net Capital Expenses $ 1,336.00 $ 1,552.00
(Annual Report, 2016)
Corporate Governance
The consolidated financial statements of the company has also clearly published and
depicted the policy of the company relating to its corporate governance. The corporate
governance policies have indicated clearly the role and responsibilities of board and
management, structure and composition of the board (Tong, 2013). The corporate governance
policies of the Group has also stated the independence criteria established for its directors and
the development of various board committees such as audit committee for ensuring
transparency and integrity in the preparation of consolidated financial statements (Annual
Report, 2016). The group has also maintained the framework for risk management and
managing the workforce diversity in order to ensure that a safe and healthy working
environment is maintained within the workplace units of the group. The audit and risk
committee of the group ensures the maintenance of integrity in the financial reporting by
complying with the accounting, legal and regulatory requirements. The Group conducts its
operational activities as per the Groups 10 community and environment principles for
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promoting the sustainable development of the communities and environment in which it
operates (Annual Report, 2016).
Non-Controlling Interest
Non-Controlling interest also refers to the minority interest and it presented in the
consolidated financial position (Balance Sheet) under Equity Section. The amount of non-
controlling interest refers to equity portion in the subsidiaries which is not attributable,
directly or indirectly to the parent company (Financial reporting developments, 2015). The
purpose of providing the details of the non controlling interests in the financial statements is
that it helps in identification of the ownership interests in the subsidiaries held by the other
parties other than the actual owner. It is the main reason why non controlling interest must be
clearly indentified under the equity section of the consolidated balance sheet (Financial
reporting developments, 2015).
After reviewing the consolidated balance sheet it has been found that Wesfarmers
does not report any non-controlling interest in subsidiaries that signifies that company has
100% stake in all its subsidiaries (Annual Report, 2016). As stated above all the details of the
subsidiaries held by the Wesfarmers, it has been hereby held that Wesfarmers pertains 100 %
stake in all its list of subsidiaries and subsidiaries of subsidiaries. In notes to accounts some
information has been found regarding the non-controlling interest held by Wesfarmers in very
small entities such as Forest products: non-controlling interest in Wespine Pty Limited, –
Property: non-controlling interest in BWP Trust, Investment banking: non-controlling interest
in Gresham Partners Group Limited and Private equity investment: non-controlling interests
in Gresham Private Equity Fund (Annual Report, 2016).
As company does not have any non controlling interest, so details regarding the direct
and indirect non-controlling interest are provided in the annual report of the company.
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Acquisition and role of Goodwill
Acquisition means acquiring the company or making controlling rights in the
company through obtaining the majority stake in the acquired firm. Acquired entity becomes
fully owned or partially owned subsidiary of the company depending upon the percentage of
the stake company has taken in the acquired entity (AASB 1013: Accounting for Goodwill,
2017). There are many ways through which acquisition can be done like through issuing the
equity shares to the shareholders of the acquired firm, through providing the cash and cash
equivalents for the total amount of sales consideration and many other (Tong, 2013).
Goodwill refers to the intangible asset that arises due to the result of acquisition by one
company of another company at premium value (Annual Report, 2016). Premium value
means any amount that has been paid on and above the net asset value of the company
acquired. Goodwill represents company value poses in its brand name, patents, customer
base, good customer services, employee relations, improvement in technology and other
similar things that appreciate the value of company (AASB 1013: Accounting for Goodwill,
2017).
In year 2016, Wesfarmers has acquired Homebase business, a recognised home
improvement and garden retailer in the United Kingdom (UK), for $665 million and it has
raised the goodwill amount to 1,018 million dollar. There is impairment of 1208 million
dollar on the whole of goodwill amount recorded in current year as well as in previous years.
Impairment refers to the reduction in carrying value of assets due to change in value in use
and discounted value of future cash flows (Annual Report, 2016).
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(Annual Report, 2016)
Accounting of Foreign Currency Transactions
The accounting transactions relating to foreign currency are denominated in foreign
currencies through the application of exchange rate differences between the original purchase
and sale transaction date on the day of settlement. The notes to the financial statements
section of the Group has mentioned the occurrence of foreign currency transactions at the
time of financial reporting of its overseas business units. The Wesfarmers Limited has many
foreign subsidiaries including Coles, Target and Bunnings Warehouse. The assets and
liabilities of the foreign business units of the Group are denominated into Australian dollars
on the basis of average rate of exchange for the year (Annual Report, 2016). The foreign
currency transactions are primarily reported in the functional currency through the
application of exchange rate differences. The monetary figures relating to the assets and
liabilities are denominated in the foreign currencies through the application of exchange rate
present on the date of balance sheet (Annual Report, 2016).
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There are many overseas subsidiaries whose balances of assets and liabilities are
converted into the Australian dollars using the exchange rate available on the reporting date
of consolidated financial statements. Income Statement balances are converted using the
average exchange rate for the year. Below is the statement of change in equity that contains
the difference of amount arises due to exchange rate fluctuations.
(Annual Report, 2016)
Other Information related to the Consolidation of Financial Statements such as Ratio
Analysis
There are many other interesting information that are related to the consolidation of
financial statements that board members must be aware of like difference between the parent
company performance and group performance. Wesfarmers prepares their financial results in
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a group which comprises of various different units such as Coles, Home Improvement, Target
and other industrial units.
Financial Performance of the Group as the whole:
Financial Data of the Wesfarmers in year 2016
Amount in AUD million
Financial Items 2015 2016
Net Income after Tax $ 2,440.00 $ 407.00
Total Assets $ 40,402.00 $ 40,783.00
Shareholder's Equity $ 24,781.00 $ 22,949.00
Current Assets $ 9,093.00 $ 9,684.00
Current Liabilities $ 9,726.00 $ 10,424.00
Revenue $ 62,447.00 $ 65,981.00
(Annual Report, 2016)
Ratio Analysis of the Group
Ratio Formula 2015 2016
Return on Assets Net income/Total Assets 6.04% 1.00%
Return on Equity Net Income/ Equity 9.85% 1.77%
Current Ratio Current Assets/Current Liabilities 0.93 0.93
Assets turnover Ratio Revenue/Total Assets 1.55 1.62
Wesfarmers makes there consolidation of financial statements at the end of financial
year with keeping in mind all the guidelines and presentation format required in the AASB
127 accounting standard.
The main group of Wesfarmers comprises of Coles and Home Improvement. So it is
important look after the financial performance of the Coles group.
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(Annual Report, 2016)
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(Annual Report, 2016)
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References
AASB 1013: Accounting for Goodwill. 2017. [Online]. Available at:
http://www.aasb.gov.au/admin/file/content102/c3/AASB1013_6-96.pdf [Accessed on: 11
September, 2017].
AASB 127. 2007. Consolidated and Separate Financial Statements. [Online]. Available at:
http://www.aasb.gov.au/admin/file/content105/c9/AASB127_07-04_COMPjul07_07-07.pdf
[Accessed on: 11 September, 2017].
Annual Report. 2016. Wesfarmers. [Online]. Available at:
https://www.wesfarmers.com.au/docs/default-source/reports/2016-annual-report.pdf?
sfvrsn=4 [Accessed on: 11 September, 2017].
Financial reporting developments. 2015. A comprehensive guide Consolidated and other
financial statements Presentation and accounting for changes in ownership interests. [Online].
Available at:
http://www.ey.com/Publication/vwLUAssets/FinancialReportingDevelopments_BB1577_Co
nsolidatedFinancialStatements_8December2015/$FILE/
FinancialReportingDevelopments_BB1577_ConsolidatedFinancialStatements_8December20
15.pdf [Accessed on: 11 September, 2017].
Hove, M.R. 2006. Consolidated Financial Statements: An International Perspective. Juta and
Company Ltd.
Tong, T.L. 2013. Consolidated Financial Statements, International Edition. CCH Asia Pte
Ltd.
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