Interpretation of Financial Statements ETNZ Conference

Interpretation of Interpretation of Financial Financial

StatementsStatementsETNZ ConferenceETNZ Conference

3 May 20073 May 2007

Toni OwenToni Owen

IntroductionIntroduction

• Role of The ShareholderRole of The Shareholder• Trustees as shareholdersTrustees as shareholders• Governance & the Operating & Financial Governance & the Operating & Financial

Review (OFR)Review (OFR)• International Financial Reporting International Financial Reporting

Standards (IFRS)Standards (IFRS)• What is included in Financial What is included in Financial

StatementsStatements• Interpreting Financial StatementsInterpreting Financial Statements

Accounting is:Accounting is:The process of identifying, The process of identifying,

measuring and measuring and communicating economic communicating economic

information to permit information to permit informed judgements and informed judgements and decisions by users of the decisions by users of the

informationinformation

““American Accounting Association 1966”American Accounting Association 1966”

Role of ShareholdersRole of Shareholders

• Invest in the businessInvest in the business

• Elect/appoint DirectorsElect/appoint Directors

• Appoint AuditorsAppoint Auditors

• Question directors at the Annual Question directors at the Annual MeetingMeeting

Accounting & it’s Relationship Accounting & it’s Relationship to Shareholder Valueto Shareholder Value

• Capital EmployedCapital Employed– DebtDebt– EquityEquity

• In return forIn return for– InterestInterest– DividendsDividends

Trustees as shareholdersTrustees as shareholders

• The requirement of Trustees to The requirement of Trustees to “Maintain and Enhance the Value of “Maintain and Enhance the Value of the Trust Fund” may be affected by:the Trust Fund” may be affected by:– Trust Deed requirementsTrust Deed requirements– Election/appointment process of Election/appointment process of

TrusteesTrustees– Beneficiary interferenceBeneficiary interference– Government/Legislative requirementsGovernment/Legislative requirements

International Financial International Financial Reporting Standards (IFRS)Reporting Standards (IFRS)

• Effective for reporting periods ending Effective for reporting periods ending after 31 March 2006 (2007 Financial after 31 March 2006 (2007 Financial Year)Year)

• Sets out recognition, measurement, Sets out recognition, measurement, presentation and disclosure presentation and disclosure requirementsrequirements

What is included in Financial What is included in Financial StatementsStatements

• Balance sheetBalance sheet

• Income StatementIncome Statement

• Statement showing changes in equityStatement showing changes in equity

• Cash Flow StatementCash Flow Statement

• Explanatory policies and explanatory Explanatory policies and explanatory notesnotes

Framework for the Preparation Framework for the Preparation and Presentation of Financial and Presentation of Financial

StatementsStatements

• The objective of the financial The objective of the financial statementsstatements

• The qualitative characteristicsThe qualitative characteristics

• Definition, recognition & Definition, recognition & measurementmeasurement

• Concepts of capital maintenanceConcepts of capital maintenance

The objective of the The objective of the financial statementsfinancial statements

To provide information about the To provide information about the financial position, performance and financial position, performance and

changes in financial position of a changes in financial position of a company that is useful to a wide company that is useful to a wide

range of users in making economic range of users in making economic decisionsdecisions

The qualitative The qualitative characteristicscharacteristics

• UnderstandabilityUnderstandability

• RelevanceRelevance

• ReliabilityReliability

• ComparabilityComparability

Definition, recognition & Definition, recognition & measurementmeasurement

• Elements of Financial StatementsElements of Financial Statements– Balance SheetBalance Sheet

•AssetsAssets

•LiabilitiesLiabilities

•EquityEquity

– Income StatementIncome Statement• IncomeIncome

•ExpensesExpenses

Definition, recognition & Definition, recognition & measurementmeasurement

• RecognitionRecognition– Incorporating an item into the Balance Sheet or Incorporating an item into the Balance Sheet or

Income Statement which meets the definition of Income Statement which meets the definition of an elementan element• WordsWords

• Monetary amountMonetary amount

• Inclusion in totalsInclusion in totals

– Should be included if:Should be included if:• Probable that future economic benefit will flowProbable that future economic benefit will flow

• Has cost or value that can be measured with reliabilityHas cost or value that can be measured with reliability

Definition, Recognition & Definition, Recognition & MeasurementMeasurement

• MeasurementMeasurement– Historical costHistorical cost– Current costCurrent cost– Realisable valueRealisable value– Present valuePresent value

Concept of Capital Concept of Capital MaintenanceMaintenance

• Link between capital and profitsLink between capital and profits

• Profit earned ifProfit earned if– Financial amount of net assets at end of Financial amount of net assets at end of

a period exceeds the financial amount of a period exceeds the financial amount of net assets at the beginning of a periodnet assets at the beginning of a period

– Excludes Excludes •distributions to shareholders (dividends)distributions to shareholders (dividends)

•Contributions from shareholders (share Contributions from shareholders (share issues)issues)

GovernanceGovernance

• LeadershipLeadership

• Provision of financial & human Provision of financial & human resourcesresources

• Set company values & standardsSet company values & standards

• Statement of Corporate IntentStatement of Corporate Intent

• Dialogue with shareholdersDialogue with shareholders

Interpreting Financial Interpreting Financial StatementsStatements

• Read the Chairman’s report and financial Read the Chairman’s report and financial statementsstatements

• Careful reading of the notes to the Careful reading of the notes to the accountsaccounts

• Comparison of percentages and ratio Comparison of percentages and ratio analysisanalysis– Past periodsPast periods– Planned performancePlanned performance– Other organisations & same industriesOther organisations & same industries

Financial RatiosFinancial Ratios

• Profitability RatiosProfitability Ratios

• Activity RatiosActivity Ratios

• Liquidity RatiosLiquidity Ratios

• Gearing or Leverage RatiosGearing or Leverage Ratios

• Investor RatiosInvestor Ratios

Profitability RatiosProfitability Ratios

• Return on assetsReturn on assetsEarnings Before Interest & Taxation Earnings Before Interest & Taxation

Average total assetsAverage total assets

• Return on equityReturn on equityEarnings after Taxation and before dividendsEarnings after Taxation and before dividends Average total shareholders’ equityAverage total shareholders’ equity

• Profit MarginProfit MarginOperating Profit after TaxationOperating Profit after Taxation Net Sales RevenueNet Sales Revenue

Liquidity ratiosLiquidity ratios

• Current Ratio Current Ratio (often called working capital ratio)(often called working capital ratio)

Current AssetsCurrent Assets

Current LiabilitiesCurrent Liabilities

• Quick Asset Ratio Quick Asset Ratio (often called Acid Test Ratio)(often called Acid Test Ratio)

Current Assets less InventoryCurrent Assets less Inventory

Current LiabilitiesCurrent Liabilities

Gearing RatiosGearing Ratios

• Debt to Equity RatioDebt to Equity Ratio Borrowings (long term + overdraft)Borrowings (long term + overdraft) Total Owners’ EquityTotal Owners’ Equity

• Debt RatioDebt Ratio Total LiabilitiesTotal Liabilities Total AssetsTotal Assets

• Equity RatioEquity Ratio Total shareholders’ EquityTotal shareholders’ Equity Total AssetsTotal Assets• Capitalisation RatioCapitalisation Ratio Total AssetsTotal Assets Total shareholders’ EquityTotal shareholders’ Equity

Investor RatiosInvestor Ratios• Earnings per shareEarnings per share Net Profit after tax & pref. Net Profit after tax & pref.

divsdivs No of ordinary shares at No of ordinary shares at

issueissue

• Earnings Yield Earnings Yield Earnings per shareEarnings per share

Market Value per shareMarket Value per share

• Price Earning Ratio (PE)Price Earning Ratio (PE) Market Price per ShareMarket Price per Share Earnings per shareEarnings per share

• Dividend per ShareDividend per Share Total dividend for the YearTotal dividend for the Year No of Ordinary Shares at No of Ordinary Shares at

IssueIssue

• Dividend YieldDividend Yield Dividend per shareDividend per share X X

100100 Market price per shareMarket price per share

• Dividend coverDividend cover Net profit after Tax & Pref Net profit after Tax & Pref

DivsDivs Dividends for the YearDividends for the Year

Cash Sufficiency RatiosCash Sufficiency Ratios• Cashflow AdequacyCashflow Adequacy Cash from OperationsCash from Operations Long-term Debt paid + Assets Acquired + Dividends Long-term Debt paid + Assets Acquired + Dividends

PaidPaid• Long-Term Debt Repayment ratioLong-Term Debt Repayment ratio Long-Term Debt RepaymentLong-Term Debt Repayment Cash from OperationsCash from Operations• Dividend Payment ratioDividend Payment ratio Dividend PaidDividend Paid

Cash from OperationsCash from Operations• Investment RatioInvestment Ratio

Non-current Asset PaymentsNon-current Asset PaymentsCash from OperationsCash from Operations

• Debt coverage RatioDebt coverage RatioTotal Long -Term DebtTotal Long -Term DebtCash from OperationsCash from Operations

Cash Flow Efficiency RatiosCash Flow Efficiency Ratios

• Cash Flow to Sales Revenue RatioCash Flow to Sales Revenue RatioCash from OperationsCash from Operations

Net Sales RevenueNet Sales Revenue• Operations IndexOperations Index

Cash from OperationsCash from OperationsOperating Profit after TaxOperating Profit after Tax

• Cash flow Return on AssetsCash flow Return on AssetsCash from Operations + Tax Paid + Interest Cash from Operations + Tax Paid + Interest

PaidPaidAverage Total AssetsAverage Total Assets

Weighted Average cost of Weighted Average cost of Capital (WACC)Capital (WACC)

• Target return required to satisfy the Target return required to satisfy the providers of finance providers of finance

• Relative cost of both debt and equityRelative cost of both debt and equity

• Set minimum return for evaluating Set minimum return for evaluating investment proposalsinvestment proposals

BenchmarkingBenchmarking

• Obtain benchmarking informationObtain benchmarking information– PWC ReportPWC Report– ABN Amro analysis of Horizon & VectorABN Amro analysis of Horizon & Vector

• Review SCI’s on company websites to see what Review SCI’s on company websites to see what KPI’s have been set between other Network KPI’s have been set between other Network companies and their shareholders.companies and their shareholders.

• Analyse your results against previous years and Analyse your results against previous years and benchmarksbenchmarks

• Set target ratios for future yearsSet target ratios for future years• Engage someone to undertake the analysis at Engage someone to undertake the analysis at

least annuallyleast annually

Up the AntiUp the Anti

If you do what you have always done – If you do what you have always done – you will get what you have always got!you will get what you have always got!

Set your target KPI’sSet your target KPI’s

Insist on performance – If Not Achieved - Insist on performance – If Not Achieved - Why Not Why Not

Any Questions?Any Questions?

Thank youThank you

Toni OwenToni OwenFocus Chartered Accountants LimitedFocus Chartered Accountants Limited

P O Box 302P O Box 302WhakataneWhakatane

Phone: 07 3071141Phone: 07 3071141Email: tonio@focus-Email: tonio@focus-

accounting.co.nzaccounting.co.nz