Analysis of Financial Accounting Theories and Practices at BAE System

This report provides an in-depth analysis of financial accounting theories and practices, focusing on the application of AASB and IFRS standards by BAE Systems. It examines the treatment of financial instruments, leasing, and biological assets, evaluating the company's financial statements for the year 2017. The research employs a deductive approach, utilizing both qualitative and quantitative methodologies to assess the effectiveness of BAE Systems' financial reporting. The report highlights the significance of accounting theories in providing a framework for financial reporting and analyzes the implications of fair value-based accounting standards. The findings cover the application of AASB 9 for financial instruments, the use of derivatives, and the impact of fair value adjustments on the company's financial performance. The report includes a detailed analysis of net finance expenses, interest income, and expenses related to financial instruments. The report concludes with recommendations for improvements and a comprehensive review of the relevant literature.

Financial Accounting
Theories
and
Practices

EXECUTIVE SUMMARY
The present research will help to understand application of AASB and IFRS with
implementation of three fair based values of accounting theories. Report will focus on three fair
value based accounting standards and its implications of these instruments in financial
accounting theories and practices followed by BAE System in its financial statements. Present
report will analyse the treatment of financial instruments, leasing and biological assets in
company according to the regulations as well as standards of accounting theories and norms
under AASB and IFRS. BAE System plc is a British multinational company formed on 30
November 1999 and operates in defence, security and aerospace industries. Approaches are of
two types such as inductive and deductive. Inductive approach observes the elements and then
provide theoretical framework at end of research process. Research objectives and aim can be
achieved with the help of philosophy adopted by researcher. Positivism is best suited for data
collection and implementation of quantitative tools are made. Financial accounting theories are
based on assumptions, framework and a set of practices used in application of financial reporting
principles.

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................1
METHODOLOGY..........................................................................................................................1
FINDINGS.......................................................................................................................................3
IMPLICATION OF FINDINGS......................................................................................................9
CONCLUSION..............................................................................................................................10
RECOMMENDATIONS...............................................................................................................11
REFERENCES..............................................................................................................................14

INTRODUCTION
Financial accounting theories are set of assumptions and rules which guides a company
on the basis that, it will prepare its financial statements. These theories will help in bringing
transparency in the financial statements of company which will provide accurate picture of
company's performance to investors, shareholders and other users of financial statements.
Accounting theories significant role is to provide reasonable set of logical principles which will
develope a general frame for the evaluation and development of sound accounting practices.
AASB is an Australian agency which guides and governs the accounting practices for private and
public sectors in Australia. The present report is based on accounting theories and practices
followed by BAE System Plc. in its financial statements.
The report will help to understand effectiveness of financial statements presented by BAE
System for year ended 2017. The report will evaluate accounting theories and practices as well as
concepts governed by AAS(Australian Accounting Standard) and IFRS (International Financial
Reporting Standards) . The report will focus on three fair value based accounting standard and its
implications of these standards in financial accounting theories as well as practices followed by
BAE System in its financial statements. Present report will analyse treatment of financial
instruments, leasing and biological assets in company according to norms and standards of
accounting theories and regulations under AASB and IFRS.
Background:
BAE System plc is a British multinational company formed on 30 November 1999 and
operates in defence, security and aerospace industry. Headquarter in London, UK it operates in
more than 40 countries. BAE Systems plc has its key market in Australia, India, Saudi Arabia,
United Kingdom and United States. The company is among world's largest defence organisation.
METHODOLOGY
Research methodology is useful tool for assessing impact of overall financial
performance of company in an effective way. The elements of research are as follows-
Research Type-
The research is to be undertaken which is used to assess whether BAE Systems Plc has
effectively presented its financial statements or not for year ended 2017. In relation to this,
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qualitative and quantitative type can be followed by researcher (Vaioleti, 2016). Hence, for
evaluation of company's accounts, qualitative aspect such as accounting theories, concepts and
regulations from governing bodies such as AAS (Australian Accounting Standards) and IFRS
(International Financial Reporting Standards) will be evaluated. On the other hand, quantitative
analysis will be made with regards to financial statements reflecting true view of affairs of firm.
Research Approach-
Approaches are of two types such as inductive and deductive. Inductive approach
observes the elements and then provide theoretical framework at end of research process. On the
other hand, deductive approach is used for making hypothesis and based on existing theory for
which research outcome is evaluated. On acceptance of hypothesis, it is formulated into new
theory. In present report, deductive approach is used (Ledford & Gast, 2018).
Research Design-
It provides complete schema of current research in hand so that steps for completing
study may be accurately followed. Descriptive and exploratory are two designs which can be
used by scholar for generating results. In relation to this, descriptive design is used for easily
assessing interrelationship between variables.
Research Philosophy-
Research objectives and aim can be achieved with the help of philosophy adopted by
researcher. Interpretivism and positivism are two philosophies which can be used to state
purpose in an effective manner. Positivism is best suited for data collection and implementation
of quantitative tools are made. While, for in-depth investigation, interpretivism is followed for
gaining deeper insights about topic. Hence, both research philosophies are used for attainment of
objectives in a better way.
Data collection-
Data is one of the important part for accomplishing research in accordance to retain
favourable outcomes. There are generally two types of data such as secondary and primary data
which serves the purpose of investigation in the best way possible (Humphries, 2017). Primary
data is gathered for first time by investigator through observation, interview or questionnaires.
While, secondary data is already collected and can be derrived from annual report of
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organisations, internet articles, books and journals which are published for public use. In present
study, secondary data i.e. annual report of BAE Systems Plc of 2017 is used.
FINDINGS
Financial accounting theories are a set of assumptions, framework and a set of practices
used in application of financial reporting principles. All these theories are romp by a specific
structure of accounting. These set of framework or structure are provided by Financial
Accounting Standards Board. An accounting practice is a system of procedures which control the
implications of accounting policies in company. Accounting practices and theories are
considered to be as norms and standards which a company has to follow in performing their day
to day accounting operations.
The accounting practices and standards are governed by Australian Accounting Standards
Board(AASB), it is an agency of Australian government which provide as well as updates
standard for public and private sector financial reporting system for all the organisation operating
in Australia (Joubert, Garvie & Parle, 2017). Accounting standard board in Australia also helps
the companies to connect in global economy and benefits in contributing in development of
financial reporting standard in global level. The norms and guidelines under AASB are
formulated in that business entity can easily integrated these standards in their accounting
practices.
BAE Systems Plc is a British based company which performed as a multinational
defence, security and aerospace company. Its headquarter is in London, United Kingdom and
operations in worldwide. BAE Systems Plc has its main operations in Australia, India, Saudi
Arabia, United Kingdom and United States. The company plays a significant role in producing
military equipment. It is one of the largest defence contractors in Australia Australia Financial
instrument:
As per the AASB 9, the new financial instrument is introduced and classification model
for financial assets that is more principle based than the previous requirement in AASB 139. A
financial instrument is any contract that gives rise to financial asset of one entity and a financial
liability or equity instruments of another firm. The IFRS standards includes requirement for
recognition and measurement of general hedging accounting.
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IFRS 9, financial instruments issued in July 2014 with an effective date and is in practice.
Accounting theory can be applied namely material concept which states that material information
should be disclosed in financial report and immaterial details can be ignored, if it does not
influence decision-making of users of accounting. In accordance to IFRS 9, recognition,
measurement and disclosure about financial assets as well as liabilities have to be made by
company having wide standard applicable to organisation. It interacts with other principles such
as IAS 21- Effect on change in foreign currency rates, IAS 32 Financial instruments- Disclosure
and Presentation and IFRS 13 Fair value measurement.
Fair value of financial instruments has been disclosed by company which includes
foreign exchange adjustments made on investments and financial instruments of £38 million.
Cash flow statement of 2017 provides cash outflow from matured derivative financial
instruments of £83 million from rolling hedges was found which was related to subsidiaries of
BAE Systems Plc and equity investments. The balance in cash flow partially offsets translation
of foreign exchange on external borrowings of US$. In relation to this, interest income was being
gained on re-measurement of financial instruments at fair value amounted to £54 million which
was gain for whole Group. On the other hand, interest expense has to be paid on bonds and
related other financial instruments carrying amount of £202 million being deducted. By
incorporating interest income and expenses, net finance costs come to £346 million. The
decrease in gains in re-measurement denotes that exchange rate movements on derivatives of
US$ denomination borrowings.
Additional Analysis
Particulars 2017 2016
Net finance expenses -346 -591
Share of equity investments (accounted) -34 -28
-380 -619
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Assessed as:
Net interest expense
Group -226 -245
Share of equity investments (accounted) -19 -12
245 257
Other:
Group:
Net interest expenditure on obligations
(retirement benefit) -165 -169
Fair value adjustments on financial
instruments 45 -177
Share of equity investments (accounted)
Net interest expenditure on obligations
(retirement benefit) -8 -8
Fair value adjustments on financial
instruments -7 -8
-380 -619
It can be interpreted from above additional analysis shown in annual report which
classifies that fair value and foreign exchange on financial instruments and investment
amounting to £45 million which are based on group's analysis in 2017 which was -177 in 2016.
Share of equity investment was also held having net interest expenditure of -8 same in both
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years. While, fair value carried out was -7 in 2017, which was -8 in previous year. In all,
underlying net interest expenditure for group and share of equity investment comes at -380
which was -619 in 2016.
The derivative financial instruments have been used by BAE Systems Plc abiding by
AASB 9. It can be found out that company is exposed to volatility in exchange rate of currencies
as derivatives are hold in US$ denomination. In relation to this, to protect Group from such
exposures of fluctuations in currency, policy of hedging all material transactional exposures have
been followed by Group (Annual Report of BAE Systems Plc. 2017). Interest rate derivatives is
utilised for managing interest rate fluctuations on its interest bearing liabilities and deposits by
varying proportion of fixed rate of debt to floating rate over forward time period. On the other
hand, foreign exchange derivatives are used for managing currency fluctuations on borrowings
and deposits of various subsidiaries and equity investments.
BAE Systems Plc has its own treasury policy and Company does not hold any derivatives
for purposes of trading. It has been also founded that financial instrument of derivative held by
BAE Systems Plc are recognised at its fair value. After it, instruments are effectively listed at fair
value being shown in statement of financial position. For estimation of fair values, discounting
expected future cash flows is used by organisation. While, if gains and losses do not find place in
hedge accounting, then it is transferred or recognised in income statement of particular period.
It has been founded from annual report that fair value of forward exchange contracts is
computed by discounting forward values and translation of appropriate rates of balance sheet. In
similar manner, interest rate and cross-currency swaps are computed by discounting future
principal and interest cash flows and translating the same with balance sheet rates. Hence, it is
being found that firm is able to provide fair value of financial instruments in financial report.
Thus, in accordance to the AASB and IFRS professional accounting bodies, fair value of
financial instrument including assets, liabilities, interest income and expenditures are effectively
carried out.
Leasing:
From 2019, the new lease standards will apply as per AASB 16 (IFRS 16) which states
that every company has to bring operating lease on their balance sheet. The property and
machinery lease which was not published in balance sheet previously has to be recorded as per
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the new norms. It will bring more transparency about a company's lease which will leads to
change in key financial measurement standards such as gearing ratios, asset-turnover ratio.
Implementation of the new leases standard is expected to create financial and operational
challenges beyond financial reporting. It will help the company to modify the process and
controls to ensure complete and accurate seizing of leasing data and judgements (Xu, Davidson,
& Cheong, 2017).
With the changes in the accounting standards as per IFRS 9 issued in January 2016 with
an effective date of January 2019, BAE Systems Plc has not yet classified operating leases
published on the balance sheet. The impact of these standards will be to recognise a lease
liability and assets on the group's balance sheet of majority of leases currently classified as
operating lease. The company is treated leases under the operating cost, lease payments made
under operating leases in income statements on straight line basis over the lease term. It can be
assessed from the report that, BAE Systems Plc is treating the leasing as per the guidelines of
AASB 16.
AASB 16 incorporates all provisions of IFRS 16 dedicated to leases. Recognition,
measurement, presentation and disclosures are to be made in relation to lease (AASB 16 Leases.
2016). The users of accounting information are benefited as they come to know amount of leases
which have effect on overall impact of entity's financial position and performance. The
recognition is not provided for short-term leases as they are out of purview of the entity. On the
other hand, IFRS 16 is also dedicated to lease which is being followed by BAE Systems Plc.
Organisation has total of £1.6 billion of operating lease commitments over it. Hence, it can be
said that it will have material impact on overall group up to a major extent. The transition option
has not yet being decided so as to apply it (Dakis, 2016).
Lease income is being generated by Group over the two years such as 23 million in 2017
which was 24 million in previous year of investment property. While rental income from other
lease agreement was 16 million in 2017 while, figure was 18 in 2016. The PPE (Property, Plant
and Equipment) in which assets held for leasing under operating leases included in PPE at cost
less accumulated depreciation and impairment losses if any. Operating lease commitments are
there because BAE Systems Plc has offices, factories and shipyards at various locations
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operating under non-cancellable agreements. Esclation clauses, purchase options and rights of
renewal are included in leases.
Particulars 2017 2016
Payments due in:
Less than one year 251 255
More than one year but less than
five years
769 699
More than five years 626 802
Total payments in future leases 1646 1756
The above table shows that payments to be made in future leases have reduced. Figure
was 1756 in 2016 and reached to 1646 in 2017. This means that payments are decreased for last
year indicating good sign for business as fewer payments are to be made.
Biological Assets
The biological assets are those which are naturally prevailing in the land and can be used
for better purpose by company in the best possible manner. Since, BAE Systems Plc is engaged
in defence, security and aerospace sector, fuel is considered to be natural product for it. It is used
frequently so as to attain CSR (Corporate Social Responsibility) in a better way. It can be
analysed that company has provided hybrid and electric systems which will reduce CO2 up to a
high extent from coming into atmosphere. Nearly, more than 8000 hybrid electric systems in
service are present from London to California. One billion passengers travel yearly, saving 17
million fuel (in gallons) and reducing 170,000 tonnes of CO2 from entering into atmosphere.
AASB 141 based on agriculture can be applied. The main objective of formulation of
AASB 141 is to provide accounting treatment, financial statements and disclosure to be
presented in it (Islam & et.al., 2017). The scope of this standard is to provide agriculture activity
in relation to biological assets. It includes livestock, tea, wool etc under the purview of standard.
Recognition and measurement of biological assets has been listed on the procedure to be
8

followed by company so as to correctly measure produce. Hence, it should be followed by
company in order to properly provide fair representation of financial statements quite effectually.
BAE Systems Plc has taken out relevant AASB 141 standard by incorporating fuel saving
mechanism by effectively reducing emission of CO2 from coming into atmosphere. Green bus
technology to water with three hybrid cars is made for boat accessories and cleaner. 'HybriGen
Zero' named boat is made saving fuel, space and cost of maintaining is lower. Hence, biological
assets is properly being listed out in financial report of company.
IMPLICATION OF FINDINGS
Financial Instruments-
There are various implications of Financial Instruments on the company in accordance to
AASB 9. It includes that more volatile will be income statement. This means that more assets
will have to be measured at fair value with any of changes being applied or recognised in profit
or loss. On the other hand, earlier recognition of impairment losses have to be reported arriving
on loans and receivables and accounts receivables etc. In simple words, BAE Systems Plc will
have to report for future losses particularly on credit on very first reporting period as soon as
loan goes on book even it is likely that asset would be collectible with ease (Joubert, Garvie, &
Parle, 2017).
New systems, procedures for collecting data will be needed as per new requirements and
as a result, implications on BAE Systems Plc will have consequences as it will have to abide by
new requirements for meeting out financial instruments. Hedge accounting would be simpler in
comparison to earlier provisions which could be addressed with the help of modified standard.
Hence, these are some of the implications which are found and may have impact on organisation.
Leasing-
Leasing has another major implication as business is mainly has much of operating leases
commitments which are to be followed by it so that it may be protected from risks that could
prevail in case of default of payments. However, it can be analysed from the findings that total
payments have reduced in 2017 in comparison to previous year which will have minimum risk
on behalf of company as financial position is good enough. Capital lease has implication of
balance sheets because the asset is itself being transferred when contract with party ends. BAE
Systems Plc has major portion of operating leases which may have implication of sudden change
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in ownership of lessee but it can be assessed from annual report that payments to be made in
operating lease commitments have comparative gone down which is useful as company needs to
make less payments in comparison to previous year. Thus, it can be said implication of leases on
part of company are low.
Biological Assets-
The biological assets have been considered by organisation. Fuel has been main source of
asset which is being used in optimum quantum by firm. It will have no bad consequences for
organisation because it is following AASB standards and making annual report accordingly. This
means that company has properly taken care of social responsibility as per CSR. Electric systems
and hybrid technology are effectively utilised for reducing emission of harmful gases which may
pollute environment and atmosphere may be degraded. Furthermore, it is also being analysed
that fuel saving, low maintenance of costs are taken into account by company by launching
HybriGen Zero. This will provide with greener environment and nature may not be get polluted
in a better way.
Furthermore, energy is saved in effective manner and as such, implications of biological
assets on company are minimised up to a major extent. No consequences will be attained as there
is proper usage of natural resources by company. Hence, it can be ascertained that BAE Systems
Plc has properly recognised, measured and fair value approach as per AASB standards. It has
also abided by relevant norms to satisfy customers and thus, CSR responsibilities are followed.
CONCLUSION
From the above report it can be concluded that, the accounting theories and practices
guided by AASB and IFRS plays a significant role in presenting the performance of company in
a precise form to the outsiders and investors. The above report is based on the accounting
theories and practices followed by BAE System plc. It is a British multinational company which
operates in defence, security and aerospace company.
The report is based on financial statements of BAE System Plc. The report has focused
on three fair value based accounting standards financial instruments, leasing and biological
assets. The treatments of this fair value according to AASB and IFRS has discussed in report.
Further, report will conclude the implication of this fair value in BAE System plc 's financial
report and income statements. The finding section in above report concluded the treatment of
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financial instruments as per AASB 9 and IFRS 9 , and company has disclosed this instruments in
its annual report 2017. Similarly, treatment of leasing as per AASB 16 and IFRS 16 has
discussed and an analysis has made which states that BAE System has not implemented the
guidelines in its annual report yet. Additionally, biological assets treatments are also covered
under AASB 141, report has concluded that BAE System has implemented the standard to
reduce the appropriate use of biological assets.
RECOMMENDATIONS
As per the assessment of the above reports, research is analysed on the application of
accounting theories and concepts standards by AASB and IFRS. The implication of three fair
value based accounting standard in company. Application of these fair value based on accounting
standard in company will help in auditing procedures, gives a fair picture of financial
performance of company. The following are the recommandation on treatment of three fair value
concepts to BAE System plc. :
 The new accounting treatment of leasing as per IFRS 16, almost all operating lease will
will be shown in balance sheet that will change the profit of lease of company. The new
accounting treatment will immediately affect s range of key metrics monitored by
stakeholders, including debt and gearing which will increase as reported debt will laso
increase. However, BAE System plc need to evaluate the lease carefully with all its
possible impacts. As it can leads to change in economics, such as pricing and risks
absorbed by the company.
 IFRS 9 fiinancial instruments issued on 24 july 2014 is the replacement of IAS 39. the
new standards includes requirement of recognisation, measurenment and general hedge
accounting. Accounting theory can be applied namely material concept which states that
material information should be disclosed in financial report and immaterial information
can be ignored, if it does not influence decision-making of users of accounting. In
accordance to IFRS 9, recognition, measurement and disclosure about financial assets
and liabilities have to be made by company having wide standard applicable to
organisation.
 AASB (141) based on agriculture can be applied. The main objective of formulation of
AASB (141) is to provide accounting treatment, financial statements and disclosure to be
11

presented in it. The adoptation of IAS 41 and the related fair value disclosur can help the
company to promote comparability of the performance and positions of the biological
asesets. Applying AASB(41)will have no bad consequences for the comnpany in making
the annual report according to the AASB(14). It will help in enhancing company's
reputation, as company has properly taken care of social responsibility as per CSR.
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
REFERENCES
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methodology. Routledge.
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of key-players: An investigation into the withdrawal of the mandatory status of the
Statement of Accounting Concepts No. 4 (SAC 4) in Australia. Accounting History,
1032373217733811.
Joubert, M., Garvie, L., & Parle, G. (2017). Implications of the New Accounting Standard for
Leases AASB 16 (IFRS 16) with the Inclusion of Operating Leases in the Balance
Sheet.Journal of New Business Ideas & Trends. 15(2).
Joubert, M., Garvie, L., & Parle, G. (2017). Implications of the New Accounting Standard for
Leases AASB 16 (IFRS 16) with the Inclusion of Operating Leases in the Balance
Sheet.Journal of New Business Ideas & Trends. 15(2).
Ledford, J. R., & Gast, D. L. (2018). Single case research methodology: Applications in special
education and behavioral sciences. Routledge.
Vaioleti, T. M. (2016). Talanoa research methodology: A developing position on Pacific
research. Waikato Journal of Education. 12(1).
Xu, W., Davidson, R. A., & Cheong, C. S. (2017). Converting financial statements: operating to
capitalised leases. Pacific Accounting Review. 29(1). 34-54.
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