Investigative Report on Manager’s Accounting

Investigative Report on Manager’s Accounting

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Reading Head: Investigative Report on Manager’s Accounting

Investigative Report on Manager’s Accounting

Student Name

University

Executive Summary:

This is a report on the Harvey Norman Holdings Ltd (A.C.N 003 237 545, AXN: HVN), an Australian Company limited by shares. The report identifies the key Accounting policies of HVN., followed by the author’s own assessment of scope and flexibility in Accounting in HVN and an evaluation of Quality of disclosures, both based on certain parameters. The author also eyed for red flags or potential mines in the financial performance and finally an assessment whether financial and performance reporting conforms to the conceptual framework is described

Contents

Executive Summary…………………………………………………………………………2

Introduction………………………………………………………………………………….2

Comment on accounting policies and estimates in use……………………………………….4

Comment on Flexibilities accounting policies and estimates in use………………………….4

Are these accounting policies and estimates used by their competitors?……………………………5

Comparison of accounting policies and estimates used by their competitors………………..5

Do you agree with the policies and estimates?……………………………………………………………….6

Is the accounting strategy hiding or revealing?………………………………………………………………6

Any Red Flags/questionable number in the accounting report?………………………………………..6

Consider the various pressures, many of which are political in nature, that influence the accounting standard-setting environment…………………………………………………….7

consider the implications of organisations making particular accounting disclosures, whether voluntarily or as a result of a particular mandate…………………………………………….7

understand the possible implications of an organisation making particular accounting choices and disclosures……………………………………………………………………………….7

Identification of Key Accounting Policies……………………………………………………8

Evaluation of Accounting strategy………………………………………………………….9

Evaluation of Quality of disclosures…………………………………………………………9

Identification of Possible Red flags…………………………………………………………11

Compliance with Conceptual frame work of reporting…………………………………….11

Conclusion……………………………………………………………………………………12

References……………………………………………………………………………………13

Introduction:

Harvey Norman Holdings Ltd is a large retailer based in Australia, with global sales of $1.85Billion + and Profit Befote tax of over $493 Million as on 30.6.2016. It has business operations throughout Australia, New zealand, Singapore Malaysia as well in Ireland and Slovenia- Croatia. Its competitors in the retail space are JB Hi- Fi, Myers Holding, Woolworths etc. This report is entirely based on the company’s annual report for the year ended 2016 and 2015. For comparison, annual report of its competitors was also studied.

Question b)

Assessment of Accounting Policies And Estimates Of Harvey Norman Holdings Ltd.(ASX code-HVN)

1) Comment on accounting policies and estimates in use

Harvey Norman Holdings (HVN) annual report 2016 has a section – Statement of Significant Accounting Policies. The various subsections under it, the information they provide and the purpose they serve are as follows.

Sub-Section

Information and comments

Corporate Information

This contains statutory information about HVN> HVN is a for profit Company limited by shares incorporated in Australia , whose shares are traded in ASX

Basis of Preparation

This section is to comply with AASB 101: Presentation of financial statements. This states that the financial report has been prepared on historical cost basis except for some items like investment properties, investment in shares etc where accounting standards stipulate other method of valuation.

Statement of Compliance

This sub section declares compliance The Corporations Act and adherence to standards issued by AASB

Summary of Significant Accounting Policies

This section contains a disclosure of continuity of accounting policies with previous years. This complies with requirement Of AASB108. It also contains the management’s 1) judgement , 2)assumptions and estimates on accounting;

on various items. These are

1. i) judgement

Judgement matters to items of i) control – control of subsidiaries, associates and joint ventures ii) deferred tax assets- assets arising out of timing differences of tax incidence, which can be applied for future payment of taxes. And iii) operating leases –leases in which ownership property is not transferred at the end of lease term

ii)accounting estimates and assumptions

Accounting estimates and assumptions pertain to estimates of fair values of carrying amount of certain assets in which use of historical cost would not give a fair picture and would be rather absurd. These are 1) revaluation of investment properties, property, plant and equipment 2) impairment of financial assets, equity accounted investments, etc 3) debt provisioning, reversal of provisioning. Present value of lease rentals etc (“Harvey Norman Holdings Ltd: Annual Report 2015”, 2015)

1. ii) Comment on Flexibilities accounting policies and estimates in use;

Where ever measurement of assets is not standardised, scope exists for flexible accounting policies. Note 14, 13 and 6 of the HVN’s financial report provides some insight into how flexible the accounting policies can be.

Note 13 & 14 relating to property, plant and equipment (non- current) cites use of three methods in determination of fair value. These are 1) income capitalisation method( net operating income discounted by appropriate market based capitalisation rate) 2) discounted cash flow method-( discounting projected stream flows by appropriate market derived discount rates) 3) direct sale comparison method (value assessed on transactions of comparable properties measurement unit- price per square foot. The DCF method involves two variables- projected cash flows and discount rates, both of which are estimated and matters of judgement. Similarly, the other methods also depend on many variables, whose values can be judgemental. The note gives a range of figures for the measurement units. E.g.-The discounting rates for retail properties varies between 6% to 10% for the year 2016, while the corresponding rates for the year 2015 were 8.5% to 10%. While the rates per square meter for valuation under direct sale comparison varies between $2151/ sq m to 5161/ sq m in 2016 the corresponding rates in 2015 were between- $ 7901 to $ 9365.

It is also noticed that in year 2016 all the three methods are used for the properties of either of the three types- retail, warehouse and office. While in 2015 only income capitalisation method and DCf method were used for retail properties, income capitalisation and direct comparison method were the methods in use for valuation of warehouses. Only direct comparison method was used for valuing office properties.

This gives an idea of how flexible the accounting policies can be.

iii) Are these accounting policies and estimates used by their competitors?

Most of the accounting policies are also used by the competitors. These are cases where the accounting standards provide for no alternative or where carrying amounts are by statute required to be valued at historical cost. E.g. valuation of inventories.

.

1. iv) Comparison of accounting policies and estimates used by their competitors

Here is a comparison of selected accounting policies of HVN and JB Hi- Fi ltd, a competitor.

Accounting Policies

HVN

JB_ HI Fi

Carrying amount of Plant property and Equipment (PPE- Noncurrent)

It is measured at fair value. The fair value being assessed on the three methods described above.

It is measured at historical cost after charging an appropriate rate of depreciation on a straight line basis

Impairment loss in trade recieveables

Provision is made for impairment of trade losses based on the assessment of their recoverability.

The policy in this matter is similar for both. However, for both cases any norms of evaluation for assessment of non- recoverability has been disclosed.

Inventories

Valued at lower of cost and net realisable , conforming to AASB102

Policy is same

1. v) Do you agree with the policies and estimates?

The accounting policies and estimates which have been used for varying the carrying amounts are permissible by accounting standards. For instance, the use of fair value in valuing the carrying amount of Plant – property and equipment (Non –current) is permissible by AASB 116. While AASB 13 lays the standards for measurement of fair values.

Further valuation of other items where judgement or assumptions are involved like valuation of employee benefits or fair value of cash hedges also conform to standards.

However, it is not possible to comment on the measurement metrics – like discounting rates. Market based capitalisation rate, assumptions of projections etc.

1. vi) Is the accounting strategy hiding or revealing?

The disclosures that are made along with the financial reports in the annual report are as per requirements of The Corporations Act 2011. They also conform to the standards of disclosure laid out in accounting standards namely-AASB 101-Presentation of Financial Statements, AABB 08-Operating Segments , AASB 02-Share-based Payment,AASB116- Property, Plant and Equipment, AASB 13- Measurement of Fair values AASB 107 Statement of Cash Flows AASB 102 Inventories and so on,

Thus, the financial report only discloses what are to be disclosed by statute. They disclose neither less nor more. They are neither revealing nor hiding.

vii) Any Red Flags/questionable number in the accounting report?

The financial report is an account of the financial position of the company as on a given date 30-6-2016 and also presents the income and loss statement for the financial year ended 30-6-2016) together with a statement of cash flows for the year. The report is audited, approved by the Board prior to publication. Thus, any questionable numbers are scrutinised by the auditors and are reported in their audited report. In the case of HVN, the auditors for the year 2016 and 2015 are Ernst & Young. Their audit report gives a clean chit to the company and does not mention any questionable numbers.

viii) Which accounting positions capture them? Why? Explain

As answer to vii being negative, the same applies here.

Question c

Critical evaluation of accounting quality by assessing accounting policies and estimates

1. i) Consider the various pressures, many of which are political in nature, that influence the accounting standard-setting environment

The responsibility of setting accounting standards lies with some statutory bodies like -The Australian Accounting Standards Board (set up under the Australian Securities commission Act 1929), which is responsible for the accounting standards to be followed by reporting entities in Australia or by some informal bodies like – The International Accounting Standards Board, which formulates the IFRS. The setting of accounting standards is done by a combination of formal and informal process which may consist of 1) stake holders raising issues 2) adding issue to agenda for consideration 3) researching the issue 4) consulting with the stakeholders through exposure drafts, invitation to comment, draft amendments and their inputs to subsequent drafts 5) voting on the topic and finally issuing the standards. Thus, standard setting is an elaborate and lengthy process where the voice of the stakeholders is very important. The stake holders are industry, trade associations, investors both domestic and international, The Government, the tax department, the professional accounting bodies and so on. So often the activeness and the strength of numbers or authority of these stake holders plays a big role in formulation of standards (Hopwood & Miller, 1994).

1. consider the implications of organisations making particular accounting disclosures, whether voluntarily or because of a particular mandate

The voluntary disclosures are disclosures, voluntarily made by organisation in their reports. These includes reports on the corporate social responsibility initiatives by the organisation., or a report on the social economic and environmental impact of its activities. The implications of such reporting are 1) commitment made by organisation to develop programmes and strategies that make a socio – economic or environmental impact 2) commit resources to the programme

3) develop metrics, create benchmarks and measure the impact of such programmes 4) report on them.

The implications of mandatory disclosures are 1) compliance to all statutes affecting the organisation 3) adherence to accounting standards 3) detailing and disclosing specific accounting policies 4) satisfying all stakeholders through reporting

iii. understand the possible implications of an organisation making accounting choices and disclosures

The possible implications of an organisation making accounting choices and disclosures are 1) The organisation should have substantial reasons to show that such accounting choices are best suited among the various alternatives and present a true, fair a correct financial results or financial status 2) the accounting choices made should render the financial reports comparable to reports of other companies of the same type. 3) The organisation should have its own goals and objectives of presentation of statements 4) The accounting choice should be acceptable to stakeholders- investors, shareholders, Government, and the auditors

Question c

Investigative report on the Managers’ Accounting Strategy and Reporting Strategy choices

1. Identification of Key Accounting Policies.

The major items in dollar terms in its financial statements are 1) Investment properties ($2,046,295) 2) Trade and other receivables ($1,096,572) 3) Trade and other payables (746,489) 4) Interest bearing loans and borrowing (453,035) 5) Property, Plant and equipment (580,805). Thus, the accounting policies related to these items are the key accounting policies (“Financial Reporting Council”, 2017).

As discussed previously, the carrying amounts of – investment properties and property plant and equipment are the fair values of such assets. The fair values are determined using the three methods-income capitalisations, Discounted cash flow and rate per unit area. This contrasts with accounting policy of other competitors who value such assets their historical cost less depreciation (“Harvey Norman Holdings Ltd: Annual Report 2016”, 2016).

In provisioning of debts in respect of trade variables the management decides based on their assessment of recoverability.

The other major items are not subject of any accounting policy which influence their status.

2. Assessment of Accounting Flexibility:

Two accounting policies listed above provide enough scope for flexibility in accounting;

The three methods used for measuring fair value of assets involve many variables like discounting rates, projected income etc. Many of these variables are subject of various assumptions (e.g. projected cash flow based on economic judgement). Some like the market rates of return are not standardised, thus offering scope for flexibility in accounting, compared to valuation based on historical costs. Nevertheless, HVN’s statement of financial position as on 30.6.2016 also provides figures valuation based on historical costs in case of property plant and equipments. The figure mentioned is more than that under fair value measurement. Thus, fair value measurement though providing flexibility, has not gone against the principle of conservatism.

The accounting policy for providing bad debts on trade receivables is also based on best judgement about the recoverability of each account. This gives scope for flexibility and hence distortion may occur when bad accounts are treated as good. However, unlike the financial services or banking industry it is difficult to provide for a normative policy for provisioning for bad debts.

3. Evaluation of Accounting strategy:

Flexibility in accounting has the potential to provide a fair, true and most accurate view of the state of financial position and economic value addition of the organisation or an inaccurate and distorted financial picture. To test whether accounting choice has been wisely used to provide accurate financial information or unfairly applied to distort the same, some tests may be made. These are

1. I) Comparison of norms of accounting policy with industry peers. – Normally all players of an industry usually follow the same accounting policy. Suspicion arises whenever a player deviates from the accepted policy or the industry norms. In case of HVN use of fair value for measuring plant and property has provided an estimate lower than the value based on historical costs. Thus, distortion of information cannot be said to have taken place (Kam, 1990).
2. ii) Incentives for managers to manage earnings-sometimes flexibility in accounting allows for recognition of higher sales and lower inventories. This inflates profits. Delay in recognising bad debts are another way of inflating the bottom lines. The annual report and the disclosed accounting policies of HVN doesn’t give indication that accounting policies could be used to advantageously to deflate expenses and inflate revenues/

iii) Changes in and departure from accounting policies and estimates from the ones traditionally followed – Departure from the accounting policies usually followed may be made for window- dressing of accounts. Such examples are change in method of depreciation, changes in valuation of investments, revaluation of non – current assets. In case of HVN there has been no change in accounting policy in 2016 from that of 2015.

1. iv) Transactions are structured to achieve certain accounting objectives: It is possible to manipulate accounts to present a financial result suited to the management needs. Thus a portion of long terms loans may be classified as short-term loans to present a higher Return on Investment. Investments nay be valued at values higher than their fair values to present a higher Earnings Before interest and taxes or non –moving inventories can be shown at values higher than their impaired values to show higher earnings. No such instances of manipulation to achieve pre- determined financial objectives were available in the reported financial statements of HVN (“Australian Accounting Standards Board (AASB) – Home”, 2017).

4.Evaluation of Quality of disclosures;

The quality of disclosures in the annual report is judged on the following parameters;

1. i) Adequacy of disclosures: The annual report contains the following 1) directors’ report 2) corporate governance report 3) audited financial statements together with notes to account

4) auditors report. All the individual reports and their contents conform to the Corporations Act 2011 and The Australian Stock Exchange Listing rules.

The report does not contain any voluntary disclosures apart from those mandated. There are no statement of Corporate Responsibility initiatives or sustainable reporting.

Thus, the report may be said to be just adequate, serving the purposes of listing rules and corporate law, but not more.

1. ii) footnotes to financial statements: The notes to financial statements contains 1) Statement of accounting policies 2) performance of operating segments 3)details of each individual items in Statement of financial position, Profit and loss statement , cash flow statement 4) details of remuneration of key management personal 5) Transactions with related parties, 6) commitment 7) contingent liabilities 8) assessment of Financial risk 9) details of equity investments 8) financial derivatives outstanding 9) details of controlled entities and 10) guarantees to third parties , related parties (“Accounting standards:AASB 102-Inventories 107 Statement of Cash Flows”, 2017).

The notes to account are quite detailed and conform to industry standards and other corporate statues. They seem quite adequate.

iii) Explanation of Notes to financial statements and their consistency with current performance- Explanation are quite detailed and figures have been reconciled with the main statement wherever required (“Accounting standards: AASB 102-Inventories”, 2017).

1. iv) Whether GAAP reflects or restricts the appropriate measurement of key measures of success

The accounts of HVN conform to both the Australian GAAP (standards of the Australian Accounting standards Board- ASSB) as well as the standards of the International Accounting Standards Board. This has been declared in the Note 1. Statement of Significant accounting policies. All listed reported entities in Australia are required to comply with the Australian GAAP which have been aligned to the IFRS. There is no choice in this matter. Entities cannot decide whether GAAP restricts or reflects appropriate measures of success. The issue of specific standards is itself based on the premises that the issued standards appropriately measures the key measures of success

1. v) Adequacy of segment disclosure: –

Note 2 of HVN’s annual report gives details of the business segments of HVN in terms of segment results, segment revenues and segment assets and liabilities. This conforms to the accounting Standards AASB -8: operating segments.

5. Identification of Possible Red flags:

HVN’s annual report and financial statements do not contain any information or clues which could be signs of concern. To be more specific, there are

1. i) no unexplained changes or deviations in accounting

1. ii) no unexplained transactions that inflate profits.

iii) unusual inventory/receivables variation with respect to sales.- The inventory turnover ratios and receivables turnover ratios in both the years 2015 and 2016 do not vary substantially.

1. iv) no major R& D partnerships or sale of current assets- receivables, restructuring of debts.

1. v) unexpected large asset write-offs / revaluations

1. vi) unexplained adjustments detected by auditors

vii) unqualified audit report.

viii) Numerous related party transactions- HVN report disclosed related party transactions. and inter- related loan accounts. However, they were not substantial compared to the revenue and total loan portfolio of HVN. Neither was the variation in these transactions or loan account substantial compared to the previous year – i.e. 2016.

6. Compliance with Conceptual frame work of reporting:

Under the conceptual frame work of reporting, the main objective of financial reporting is to enable investors and shareholders to estimate the value of the organisation – the potential of the organisation to generate future cash flows (the discounted value of the future cash flows being the value of the organisation. Thus, the financial information system must reduce the information gap and information asymmetry between management and the share holders. For the information to be useful to investors, the information must be relevant, internally consistent, reliable and timely. The accounting standards provide the minimum standards which the organisation must adhere to. The adherence to standards together with statutory disclosure requirements ensures relevancy and consistency. While the system of auditing ensures reliability.

HVN has adhered to accounting standards and provided all information required under the corporate laws and listing agreement. Its accounts are audited and certified. As such its reports follow the conceptual frame work of reporting.

Conclusion:

The Company- HVN whose financial statements for the period 2015 and 2016 are the objects of the study have adhered to the accounting standards of the Australian Accounting standards Board as well as IFRS. Its accounting policies have been used consistently and enables year to year comparison as well as to that of its peers. Its accounting strategy does not lead to any misleading information. The disclosure is adequate and there are information discrepancy which could be red flagged. The auditors’ report is unqualified and the report conforms to the conceptual framework of financial reporting.

References:

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