Analysis of Accounting Theory and Governance: A Case Study Report

This report delves into accounting theory and governance, analyzing financial statements and executive remuneration through case studies. It examines the financial performance of Wesfarmers Limited, adhering to ASIC guidelines for investment analysis. The report explores key financial figures like profit after tax, earnings per share, and dividends, alongside management opinions. It assesses the company's financial health and potential as an investment. Additionally, the report investigates executive remuneration practices, particularly in the United States, evaluating the effectiveness of reforms and the role of taxation laws. The report concludes with recommendations based on the findings.

Accounting theory and governance
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Contents
Introduction................................................................................................................................3
Summary of Case Studies..........................................................................................................3
Case Study 1...............................................................................................................................3
Analysis of Annual Report (Company Name: Wesfarmers)......................................................3
Examining figures in financial statements.............................................................................3
Important Financial Figures in Understanding the Financial Performance of the Company.4
Management Opinion in the Report about the Financial Figures...........................................5
Assessment of Financial Report in relation to Management Opinion....................................6
Analysis of the Wesfarmers as the potential investment........................................................7
Case Study B..............................................................................................................................8
Recent Changes for Addressing Executive Remuneration in the United States....................8
Effectiveness of reforms on the Shareholders Assumptions to Act.......................................8
Role of Taxation laws and Denying Contract Adoption for Addressing Executive
Remuneration.........................................................................................................................9
Conclusion................................................................................................................................10
Recommendations....................................................................................................................10
References................................................................................................................................11
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Introduction
Financial knowledge has been a must in order to take the review of the company
financial performance. As the investors it is not possible to review the whole business
performance and to take decisions to invest in the various choices of investment options. In
this regards Australia Securities and Investment Commission (ASIC) has provided 10 major
points that every investors need to undertake before making the decision to invest in any
company. All these points help investors to analyze the performance of the company and to
come with the proper choice. All these points are defined in detail and are really helpful for
the investors. In this report in order to explain all these points a case study 1 has been
undertaken and various questions to case study has been answered. For case study company
called Wesfarmers has been taken to explain the case study questions.
Executive remuneration is always the concern for the stakeholders as their pay
increase year to year even in the situation of financial crises. In order to explain the reform
undertaken to make changes on how the remuneration of the top management has to be
calculated, the case study 2 has been taken and various questions has been answered.
Summary of Case Studies
 Case Study 1: This study provides the 10 major points that every investors must
review in context of any company chosen for investment purpose before making the
decision of investment. In this regard Wesfarmers has been selected to explain the
procedure.
 Case Study 2: This study discusses the issues with the excessive executive
remuneration in the United States and reforms to make changes in the calculation of
the executive remuneration.
Case Study 1
Analysis of Annual Report (Company Name: Wesfarmers)
Examining figures in financial statements
The financial statements developed by an entity aims to reflects its financial
performance for supporting the decision-making of end-users. In this context, the ASIC
(Australian Securities Investment Commission) has provided suggestions to the non-
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professional investors for evaluating the financial performance of a company through its
financial statements analysis. The suggestions are provided on ASIC for protecting the
interests of investors so that accurately interprets the financial information for making
informed decisions for investing (Australia, 2011). The financial performance of Wesfarmers
Limited, Australian retail giant, can be based from the financial statements net figures of
income statement and balance sheet as per ASIC guidelines. The income statement analysis
has depicted that the company has recorded a net increase in its profit in the year 2017 as
compared to the financial year 2016. The underlying net profit has increased to 22.1 per cent
in the year 2017 and has reached to $2,873 million. The earnings per share have increased to
21.6 per cent and return on equity has reported an increase to about 12.4 per cent in the year
2017 as compared to the previous financial year. The increased profitability of the company
has resulted in raising the dividend per year from $1.86 per share to $2.23 per share in the
year 2017 (Wesfarmers 2017: Annual Report). The increased cash inflow of the company on
account of its improved return on capital has helped in to expand its business operations. As
reflected from the director’s report of the company, its improved financial performance has
resulted from its recent conglomerate structure. The company is presently emphasizing on its
strategy of providing improved return to shareholders through realizing larger returns form its
industrial businesses in Kmart and Bunnings.
Important Financial Figures in Understanding the Financial Performance of the
Company
As analyzed from the case study, the ASIC has regarded the financial figures
disclosed in the director’s report in order to gain an insight into the profit or loss realized by a
company. The directors of Wesfarmers have also discussed the financial performance of the
company in the annual report through the help of some key financial figures (Hussey and
Ong, 2005). The financial figures include profit after tax, earnings per share, return on equity
and dividend per share. The financial figure relating to profit after tax depicts to the investors
regarding the percentage of money earned on per dollar of revenue. The investors can gain
an insight into the net profit realized by a company after meeting its all tax related
expenditure. It enables the investors to analyze the profitability of a company without the
impact of operating leverage thus the investors can actually predict its real financial
condition. The earnings per share depict the amount of money earned by a company per every
outstanding share of stock. It helps the investors to predict the financial profits that a
company can provide to its shareholders. The return on equity provides a measure of the
profitability of a company in comparison to the net investment (Wesfarmers 2017: Annual
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Report). The dividend per share of a company indicates the profits earned by the shareholders
giants the number of outstanding shares. The key financial figures predicting the financial
performance of Wesfarmers Limited can be depicted from its annual report are as follows:
Source: https://www.wesfarmers.com.au/docs/default-source/default-document-library/2017-
annual-report.pdf?sfvrsn=0
Management Opinion in the Report about the Financial Figures
The operating and financial review presented by the Director’s in the annual report
the primary objective of the company is to provide good returns to its shareholders. The
company aims to achieve strong financial performance in each of its divisional units that will
be controlled by the divisional board of directors. The operating and financial review of the
company has outlined the major risks and future growth prospects of the company as well
based on its key financial figures. The financial performance of the year 2017 has represented
the profitability of each of its divisional unit along with providing an analysis of its
competitive environment through assessing the financial risk and prospects. The company
recorded a net profit after tax (NPAT) of about 2,873 million in the financial year 2017 as
compared to that of $1,946 million in the year 2016. Thus, it can be said that there is
significant increase of $2,466 million in the current financial year of the company in net
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profit after tax. The cash flows have also increased from $861 million to $4,226 million in
the year 2017 (Wesfarmers 2017: Annual Report).
The increase in operational cash inflows indicates the higher earnings growth and
adequate managing and controlling of each inventory in all of its retail segments. There is
also a decrease in the capital expenditure of the company in the year 2017 to $218 million as
compared to $1,681 million in the year 2016. As per the director’s review, the decrease in the
capital expenditure is due to fewer openings of its retail stores and thus reduction in the
operational expenditure across its industrial divisions. The company also has realized
proceeds of about $947 million due to divestment of receivables from its Coles divisional
unit. The balance sheet of the company has also strengthened mainly due to reduction in the
net financial debt that includes interest rate swap assets to about $4,321 million in year 2017
as compared to $2,216 million in the year 2016. Also, there is a significant reduction in the
financial cost of the company to about 14.3 per cent from that of the previous year. The
management of the company has regarded the increase in its operating cash flows and return
on equity on account of its adequate conglomerate structure and its emphasis on improving
the cash generation and capital efficiency (Wesfarmers 2017: Annual Report).
Assessment of Financial Report in relation to Management Opinion
Management has elaborated the financial performance of the company through using
the graphs and charts. As per the ASIC reports it is essential to examine the management
viewpoint on the performance of the company and what actually has been reported in the
financial statements prepared. For instance, the management of the Wesfarmers has point that
the in the current year (2016-17) the profitability performance of the company has been
increased and they are paying good returns to their shareholder’s. There is high amount of
increase in the revenue of the company due to improvements made in retail and industrial
business. It has been told by the managing director that cash generation was quite strong that
reflects the company value to increase the return on capital invested in the business. Finance
director has elaborated the operating financial position of the different units in the
Wesfarmers and according to the report the net profit after tax has been $2873 million AUD
which itself a record for the company (Dagwell, Wines and Lambert, 2015). On
reinvestigating whole financial statements it has been found that there are no such
discrepancies in the management disclosures of the financial performance and that reported
under the audited financial statements. So it can be said that there is no change in the
financial performance as reported by the management personals and as described in the
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financial statements of the company. There is major reason behind similarity of management
disclosure and what has been disclosed by the audited reports of the company (Wesfarmers
2017: Annual Report). The reason is such that annual reports are prepared after financial
statements have been audited and verified by the top management. Top management people
provide their statements on the financial performance of the company after reviewing the
audited reports of the financial statements so that true and fair picture of the financial
statements can be presented in front of the users of the annual report (Henderson, 2015).
Analysis of the Wesfarmers as the potential investment
In order to analyze the company for its potential investment it is necessary to make
the detailed interpretation of the financial performance so that investors can use such
information to make the judgment regarding their investment in the company. Wesfarmers
has varied potential that can attract the investors (Horngren, 2012). Wesfarmers works in
different category of business such as retail segment, industry segment, home improvement
segment and many others that made a different from other to make the investment. Company
has diverse business operations and high growth balance sheet. The retail segment of the
company has foreseen major improvement in recent years and it has been monitored by
various changed made. Continuous improvements in merchandising and service; increase in
customer satisfaction through regular change in interaction at the stores and online purchase;
and investment proposals are some of the major highlights in the change of retail segment of
the Wesfarmers (Bazley, Hancock and Robinson, 2014).
The whole group cash generation power has increased out rightly that has provided
the management to manage the capital structure and to make the position of the balance sheet
strong. Wesfarmers continuously take opportunities to create and to improve the
shareholder’s wealth through proactively management of the portfolio and reviewing the
strategies regularly so that business resources are put in high end growth segments of the
company.
Coles the major segment of the business has faced high competition and pressure of
increase sales margin. In this action, the plan is to focus on the budgeted plans and to further
enhance the quality of the fresh offer and to improve the merchandising and availability,
through driving the operational efficiencies in order to the support investments in the various
services and values. There is expectation and budget driven approach to increase the
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performance of the Home Improvement segment of the business (Wesfarmers 2017: Annual
Report).
Overall analysis of the part performance of the company shows that company has
done exceptional well in year 2017 as compare to other previous year and it makes a valid
choice for the investors to make investment in such growing company. The growth of the
company is marked with many potential and valid proofs such as increase in dividend payout,
high cash generation capacity, solid capital structure and plan to improve the further business
segment. This made the Wesfarmers a strong competitor for the other companies in same
segment and also for companies that are in competition as a potential investment for the
investors (Wesfarmers 2017: Annual Report).
Case Study B
Recent Changes for Addressing Executive Remuneration in the United States
The given article ‘Reining in Executive Pay’ has addressed the need for developing
implementing laws and regulations for addressing the excessive remuneration of the
executives. In this context, the article has particularly examined the excessive pay provided to
the executives in the United States. The executives are realizing higher pay in the United
States as indicated from the fact that there is increase of about 42 per cent executive
remuneration in the year 2008 despite of the collapse of the financial sector of the country.
There is significant growth in the executive pay over the consecutive years and thus there is
higher need for developing financial reforms in relation to monitoring of pay of executives.
In this context, the U.S government ha introduced a legislation knows as shareholder ‘say on
pay’ to be followed by all the publicly traded U.S companies (Executive Compensation and
Incentives, 2006). As per the legislation, the shareholders have a right to decide over the
matters relating to executive remuneration that should be followed by the Board of Directors.
In addition to this, the law has also stated that shareholders as per the SEC regulations can
appoint their own directors candidates through ballots if the company’s present directors does
not approve their decisions. Also, it is necessary for the U.S. companies to maintain the
independency of the board of directors in appointing and developing the remuneration
committee. The Board of Directors must also ensure that the corporations disclose all the
relevant information regarding the executive pay and its relation o financial performance. The
reforms introduced by the government in relation to monitor and control the excessive pay
provided to the executive’s aims at preventing the increased rewards to executives. This is
necessary because the increased rewards provided to executives can drive the misconduct in
manager’s behaviour by manipulating the financial information for achieving higher pays
when it is linked to the company’s financial performance.
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Effectiveness of reforms on the Shareholders Assumptions to Act
The article has discussed the reforms introduced by the U.S. for monitoring the pay
structure of executives in order to ensure that executives does not receive higher rewards that
drive them to conduct unethical practices for achieving higher benefits. The reforms
introduced by the U.S. government known as shareholder ‘say on pay’ has stated that all the
public-listed companies in the country will decide the remuneration of the executives based
on the shareholders opinions. Thus, as such it can be said that the effectiveness of the reforms
is based on the assumptions that the shareholders will act ethically and right in deciding over
the matters of executive remuneration (McDonnell, 2008). However, there are some barriers
to effective shareholder control over the executive remuneration. The major obstacle faced by
the Board of the company in this regard is developing an effective strategy for creating an
effective communication channel for disseminating the information to the shareholders.
Thus, as such business entities need to induce changes in its business environment to promote
effective communication of all the information related to executive remuneration policies to
the shareholders. Also, it can be argued by the contract theory that corporations have
contractual obligations with the shareholders and therefore they should act in favour of the
shareholders to provide them larger returns (Finance Committee, 2016). Thus, the
corporations can influence the decision-making power of shareholders in relation to executive
pay through promising them larger retunes. Thus, as such shareholders have profit interest in
the corporations and therefore the power provided to them for monitoring the executive pay
cannot be stated to be right and just. The independency of the shareholders in deciding over
the matters of executive remuneration is question of debate as stated in the present article.
Therefore, as discussed in the given article there is need for introduction of more better
regulations in the U.S. that provides authority to all the stakeholders of a busies corporation
not only to shareholders for deciding and monitoring the executive remuneration.
Role of Taxation laws and Denying Contract Adoption for Addressing Executive
Remuneration
The article has stated that shareholders decision in relation to executive remuneration
cannot be regarded to be accurate as it is based on assumptions that they will act ethical and
fair in deciding the executive pay. Thus, the article has stated that the reforms introduced
should provide authority to all the stakeholders including consumers, workers and all the
communities that are impacted by corporate operations. This is because the corporation’s
activities’ can put all its stakeholders to risk and therefore the responsibility of the executive
pay decisions should not be provided only to shareholders but to all the stakeholders. In this
context, the tax dollars paid by the general public should not help in subsidizing the executive
pay in excess. This can result in a significant reduction of millions form the income taxes that
corporations pay as excessive executive remuneration. In addition to this, there is need for
developing a federal contract with the companies that provides remuneration to their
executive 100 times more than that of their labour wages (Treanor, 2016). The contract would
help in reducing the economic inequality as the contract would require that business
companies in the U.S. should maintain a fair proportion of the remuneration between its
executive and workers and should provide the ratio between the CEO compensation and the
workers in their annual report as well. The introduction of such measures will help in
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developing the strong corporate governance practices for curbing the excessive executive
remuneration (McDonnell, 2008).
Conclusion
It can be inferred from the overall analysis of the report that ASIC plays a major role
in protecting the investors interest through providing them suggestions to analyse the annual
report disclosures of various corporations. Also, the executive remuneration should not be
linked to the financial performance of a company as this can result in occurrence of
fraudulent financial activities in a business entity.
Recommendations
On the basis of the case study analysis, it is recommended to the investors that they
should consider the suggestions provided by the ASIC while analysing the annual report of
their selected company. This will help in securing the interests of amateur investors do not
possess adequate knowledge about the annual disclosures of a company. In addition to this, as
analysed from the second case study there is need for developing strong regulations that
provides more power to the stakeholders in deciding over the matters of executives
remuneration.
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References
Australia. 2011. Australian Corporations & Securities Legislation 2011: Corporations Act
2001, ASIC Act 2001, related regulations. CCH Australia Limited.
Bazley, M., Hancock, P. and Robinson, P. 2014. Contemporary Accounting PDF. Cengage
Learning Australia.
Dagwell, R., Wines, G. and Lambert, C. 2015. Corporate Accounting in Australia. Pearson
Higher Education AU.
Executive Compensation and Incentives. 2006. Retrieved 10 October, 2017 from
http://www.lse.ac.uk/fmg/researchProgrammes/corporateFinance/corporateGovernanc
e/pdf/executiveCompensationAndIncentives.pdf
Finance Committee. 2016. Recommendations and Decisions of the International Civil Service
Commission to the General Assembly (including Changes in Salary Scales and
Allowances). Retrieved 10 October, 2017 from http://www.fao.org/3/a-mq160e.pdf
Henderson, S. et al. 2015. Issues in Financial Accounting. Pearson Higher Education AU.
Horngren, C. et al. 2012. Financial Accounting. Pearson Higher Education AU.
Hussey, R. and Ong, A. 2005. International Financial Reporting Standards Desk Reference:
Overview, Guide, and Dictionary. John Wiley & Sons.
McDonnell, B. 2008. Two Goals for Executive Compensation Reform. Retrieved 10 October,
2017 from http://scholarship.law.umn.edu/cgi/viewcontent.cgi?
article=1168&context=faculty_articles
Treanor, J. 2016. Pay ratios could be made public as part of executive salary reform.
Retrieved 10 October, 2017 from
https://www.theguardian.com/business/2016/jul/25/pay-ratios-could-be-made-public-
as-part-of-executive-salary-reform
Wesfarmers 2017 Annual Report. Retrieved 10 October, 2017 from
https://www.wesfarmers.com.au/docs/default-source/default-document-library/2017-
annual-report.pdf?sfvrsn=0
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