Chapter 3 - Introducing Financial Statements

I was looking forward to this chapter of the study guide, hoping that I was going to grasp a good understanding of what we have been working on and hopefully reassure me on my work so far. Sometimes being a distance student is so hard!! I lack confidence when it comes to numbers and I am an over thinker which I honestly believe makes me confuse myself even more. Regardless, I think I did well in this chapter, I feel a little fuzzy on the du Pont structure and question two for this chapter kind of stumped me but I believe I have answered it correctly and if not, please feel free to enlighten me.

When this chapter explained that financial statements were set out differently from company to company my first thoughts were, I got this! I was aware that firms set out their financial statements differently just by looking at those prepared by myself for Caltex and the ones my peers have completed for their assigned companies. I was also aware that different companies called their statements different things for the same reason; I learnt this through my peers’ blogs. I don’t quite understand why they would be called different names, especially if they are Australian companies. I would have thought there would be a guideline or rule for this, obviously not.

To be honest, before I read through Chapter 1 and had to answer the questions, in particular question 2, I had no idea that the assets, liability and equity were all included in the balance sheet only. I expected to see these throughout the four financial statements I had in front of me, little did I know then. This chapter has now confirmed this and settled any doubt I had about that and about my answer to Question 2 for Chapter 1. Light bulb moment, the balance sheet does state this pretty clearly however, I wasn’t sure if it was a trick.

This chapter states that in the balance sheet there should/may be a category called ‘Investment in Subsidiaries’ which lists the firms in which the company, along with the shareholding the parent company has in each of them. My company, Caltex Australia Ltd, does not have a category called ‘Investment in Subsidiaries’ and the only thing closest to this was the ‘Investments accounted for using the equity method’. When I went to the notes for this category it does list five other company names and a percentage of interest of which I am assuming they own. Would this be correct? Is this their ‘Investments in subsidiaries’? If so, I was expecting there to be more than five of these. Maybe because they franchise a lot of their retail outlets, this takes away many of their investments? Also, out of the five companies, three are 50% owned by Caltex, two are 40% owned and one is 25% owned by Caltex but these are not listed on the balance sheet as ‘non-controlling interests’ or ‘minority interests’ as this chapter suggests. It does however show, in the 2014 Annual report, the percentages owned for the years 2013 and 2014 and these did not change over those two recorded years.

This chapter explains that the income statement will also include the ‘non-controlling interests’ or ‘minority interests’, again, Caltex Australia does not list either of those categories, rather lists ‘share of net profit of entities accounted for using the equity method’ and this is listed at $917,000.00 for 2014. I am unsure why they name this category different and I am unsure what the ‘equity method’ is. This is another question of mine, what is the equity method?

Looking at my companies Statement of Changes in Equity I can see that their balance at 31^st December 2013 ($2,159,579.00) is larger than that of the balance at 31^st December 2014 ($2,532,591.00). There is not a large difference but there is still a decrease which I would think is a cause for concern, should it be?

Question 3-1

What is wrong with just doing what ‘works’ in relation to analysing financial statements? There are plenty of experienced practitioners in our capital markets. Why do we not simply find out what most are doing and just do this ourselves? What do you think and why?

I don’t think that we could do ‘what just works’ or what everyone else is doing because every company’s financial statements are different, they contain different categories and therefore will require different analysis. If they were all analysed the same then they would all require the same categories and layouts etc. to be successful. But then again, every business is different so how can you analyse them as being the same? It just would not work.

Question 3-2

What is the benefit of having a structure, such as the du Pont Company’s framework, to help use ratios to analyse a firm’s financial statements? Is it any better (or worse) than simply doing what experienced practitioners do? Why or why not?

I believe, the benefit of a structure, such as the du Pont Company’s framework to use ratios to analyse a firms financial statements may be that of time. By looking at ratios there is a quick and clear cut identification of the performance of the company. However, as this chapter explains, an ‘analysis of a firms financial statements can help us gain an understanding of the quantified dollar effects of the companies economic and business realities’. The du Pont Company’s framework is not quantifiable and therefore I do not believe it is any better than what experienced practitioners do. How can you truly understand the value if it isn’t quantifiable?