FRA Draft v3

8/13/2019 FRA Draft v3

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22747 Financial Reporting Analysis

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1. Qantas Background and StrategyQantas (ASX: QAN) founded in 1920, nickname flying Kangaroo - is widely regarded as the

world's leading long distance airline and one of the strongest brands in Australia. Qantas

group operates in four core segments: Qantas and Jetstar as passenger flying businesses,

Qantas Freight as a courier service and Qantas Frequent Flyer. Its broad portfolio also includes

other airlines, and businesses in specialist markets such as Qantas Holidays and Q Catering. In

terms of operation scale, Qantas accounts for 65% of domestic aviation capacity, 20%

international capacity and 80% of airfreight delivery services, directly employs 33,000

Australians and in-bound tourists Qantas carried contribute $24 billion to the Australian

economy per annum1. Qantas main rival in Australia is Virgin Australia Airlines (VAH).

During the financial year 2011/12, Qantas group

faced a number of significant challenges including

natural disasters, huge unfavorable movement in fuel

price and an unprecedented industrial dispute. These

factors resulted in the groups reporting statutory

loss after tax of $245 million despite the solid $3

billion in cash.

In short term, Qantas groups core strategy is to profitably grow its two flying brands, Qantas

and low-cost Jetstar. Qantas will seek to strengthen its leading positions in premium markets

while Jetstar will expand locally and into international leisure markets. In longer-term

strategy, the group aims to restructure its international business in an attempt to eliminate

mounting losses. The so-called 5-year international turnaround plan aims to reduce the

capital intensity of the business by forging partnerships with carriers in certain sectors that

are uneconomical. Cost controlling is also among the groups top priorities, leading example of

which is the large-scale job cutting of 1000 announced in 2011.

2. Accounting policies - Alignment to the groups strategy- Level of Flexibility:

As per Qantass annual report 2011/12, Qantas group has applied wide range of notable

accounting policies, all of which are prepared in accordance to AASB standards. Within the

scope of this report, we will be analyzing 5 major policies relevant to the group operation.

Qantas vs. Virgin

Mkt

Cap.ROE NPM EPS

QAN 2,435 (4.1%) 1.36% (10.8)

VAH 854 8.40% 2.23% 1.60


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2.1. AASB118 - Revenue Recognition:Qantas group arranges their operating revenue into 3

categories namely Passenger Revenue, Freight Revenue and Other Revenue; involving a

number of accounting policies in which revenue are recognized differently (See Analysis in

Appendix)

Under Statement of Significant Accounting Policies, the group reported on how revenue is

recognized. All these recognition processes are complied with the standard set out in AASB118.

Judging from the recognition criteria of the group, the level of Flexibility is rated as table above.

Passenger Revenue: recognized when passengers or freight are uplifted or when tours and

travel air tickets and land content are utilized. Passenger recoveries including fuel surcharge

on passenger tickets) are included in net passenger revenue. Notably, the group recognizes

unused tickets as revenue using estimates based on the terms and conditions of the ticket

which is set out by the group themselves; this effectively indicates that Qantas management

board has the direct influence and a significant level of manipulation on the portion of income

they want to recognize.

Freight revenue:included the Freight fuel surcharge. This amount despite being compared to

other airlines, is clearly within the power of control of the management.

Other income: including results from claims for liquidated damages is recognized when all

performance obligations are met, including when a contractual entitlement exists, when it can

be reliably measured and probable that the economic benefits will accrue to the Qantas Group.

Non-operating income such as income from assets disposals, dividend revenue also explained

within the statement. This category of revenue demonstrates low flexibility level.

2.2. AASB 121 - Foreign Currency Transaction: Qantass flying network comprises of 182

destinations in 44 countries which means they have to deal with foreign currencies on an

extremely regular basis thus accounting for this matter is important. In addition, under AASB

121, Qantas in preparing financial statements must translate other foreign currencies into

Australian dollars. Qantas assets, liabilities, and income statements of foreign operation are

Accounting Policy/ Standard Applied Overall Level of Flexibility

AASB118 - Revenue Recognition Medium

AASB 121 - Foreign Currency Transaction Low

AASB 116 - Property, Plant and Equipment ???? (I guess Low)

AASB 137 -Provisions, Contingent Liabilities and Contingent Assets Medium

AASB 119 - Employee Benefits Moderate


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translated to the Australian dollars at prevailing exchange rates at either the dates of the

transactions or balance date except where hedge accounting is applied. Exchange differences

arising on translation are recognized in other comprehensive income (for Transactions) and are

presented within equity in the Foreign currency translation reserve(for foreign operations).When a foreign operation is disposed, the difference is reclassified to the Consolidated Income

Statement as part of the gain or loss on disposal. With respect to Foreign Currency Transaction,

Qantas management board has little control over because the currency rates are externally

established; the only time where they do have some impact is when non-monetary assets

liabilities denominated in foreign currencies are accounted for. Management can pick the date

where exchange rates are in their favor.

2.3. AASB 116 - Property, Plant and Equipment: Majority of Qantass assets is items of

Property, Plant, and Equipment (66.8 per cent of total assets), which are measured at initial cost

or estimated cost less accumulated depreciation and impairment losses. As of June 2012, Qantas

possessed $ 14,139 million dollars worth of Property, Plant and Equipment, an increase of

3.57% when comparing with the previous financial year ($13,652m). This increased amount

indicates that Qantas has made a sound business improvement. Depreciation of these owned

assets except for freehold land are provided on a straight-line basis over their estimated useful

lives from the date of acquisition. For this key accounting policy, Qantas has complied with AASB

116 Property, Plant, and Equipment. Therefore, the valuation of these assets plays a critical part

in Qantass performance and they would be subjected to an impairment test in accordance with

AASB 136 Impairment of Assets. During the year, in International Transformation Plan, Qantas

recognises an impairment loss of property, plant, and equipment is $147,000 which is made

where the carrying amount of an asset or cash generating unit exceeds its recoverable amount.

On another hand, Qantas has experienced a reduction of 2.8% in having cash and cash

equivalents that suggests Qantas has less liquidity than their previous financial year. The

accounting policy states that cash and cash equivalents consist of cash at bank and on hand, cash

at call and short-term money market securities and term deposits that are readily convertible.

2.4. AASB 137 - Provisions, Contingent Liabilities and Contingent Assets: With a total of

$1,307 billion of Provisions (current and non-current, represents 8.5 percent of total liabilities),

it is absolutely critical that Qantas accounts for it properly. In accordance to AASB137, the group

accounts for provisions for dividends, employee benefits, onerous contracts and insurance and

legal. It is calculated using pre-tax rates that reflect current market assessment of the time value

of money and the risks specific to the liabilities and have maturity dates approximating the


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terms of Qantas obligations.Among the Provisions, the Redundancies, restructuring and other

employee benefits increased to $168 million from $58 million in 2010/11 (189%). This

increment is anticipated due to announcement of a 1000 job-cutting plan; however, there were

no further explanations on what estimates the group used thus there exists some moderateflexibility for the particular provision.

2.5. AASB 119 - Employee Benefits:Qantas directly employs 33,584 full-time equivalents as at

30 June 2012 across 200 separate job categories. According to 2011/12 annual report, the

Manpower and staff related expenses were increased to $3,774 million from $3,695 million in

2011, accounts for 23.7% of its total expense. AASB119 requires employee benefit provisions to

be discounted to their present value using a discount rate determined by reference to market

yields at the end of the reporting period. Complying with AASB 119, Qantas now uses the State

Government Bond yields rather than Federal Government Bond yields previously used. The

changes in discount rates resulted in a decrease in the Workers Compensation provision of $15

million and an increase in the long service leave provision of $45. The net effect of these changes

was a $30 million increase in provisions at 2012. Accounting for the groups Employee Benefits

is detailed, reflecting the changes introduce by AASB while offering some room for management

flexibility as in the end, it is still a provision which essentially based on expectations and

estimates.

3. Evaluate Accounting Strategy - Management incentives

Under normal circumstances, where certain degree of flexibility is available when preparing the

reports, the board of management is prone to take advantage to hide the unfavourable figures

thus create a gap between the actual performance and the reported. This can mislead the

stakeholders in assessing the group overall. Given the level of flexibility that Qantas employed

during the process of preparing the annual report, there is a good chance that some figures areat manipulated.

Reporting a Statutory Loss after Tax of $244 million, it is sensible to assume that Qantas board

tried to minimize this figure. This can be done via fixing some of the revenue recognition criteria,

particularly the terms and conditions to effectively recognize a larger portion unused tickets as

revenue. Change in terms and condition is not to be abused frequently but is possible.

One of the common incentives for CEO to cook the report is to boost up the remuneration

packages being granted. Analysing the remuneration for the groups Key ManagementPersonnel, the findings indicate that this is not the case. Non-statutory remuneration disclosure


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reflects the actual pay the KMP actually get for financial year 2011/12. There is a significant

decrease ($1.7 million or 14.6%) in total pay comparing to previous year where Qantas made a

$249 million Profit after Tax. CEO Alan Joyce also declined his $792,000 award under Short term

rewarding scheme. Therefore, there is weak evidence that Qantas board has abused theflexibility in accounting standards to get paid more.

4. Evaluate Quality of the Disclosure

Overall, Qantass annual report was well presented and complied with the mandatory disclosure

requirements set out by relevant accounting standards. They clearly delivered financial

statements in Directors Report and Review of Operations (performance of 4 segments include

Qantas, Jetstar, Qantas Frequent Flyer and Qantas Freight) which helps readers understand the

report. In addition, Qantas provide extra materials such as data book, investors fact file.

However, there are shortfalls in statutory accounts, only accounting numbers and brief

explanations of changes their financial performances are delivered which constrains investors

who are not familiar with complex accounting figures from understanding managements

approach. Throughout the report, estimates are used in certain sections such as Discount rates

for Provisions, Fair Value of Qantas Frequent Flyer and Intangible Assets. Despite of possible

great impacts of estimates on other accounts, limited sensitivity information is provided

regarding the method used to compute these items.

One of Qantass major issues during the period is the prolonged Industrial Dispute, this is

reported to cost the group a huge amount of $194 million; however, components and calculation

process is not explained under the scope of the report.

In response to bad news about losses in international routes, Qantas reports its changes by using

international transformation during the year and subsequent period.

In addition, Qantas provides no further explanation for an impairment loss of property, plant,

and equipment even it states the information will be explained in details. The Qantas Group is

subject to foreign currency, interest rate, and fuel price and credit risks. Derivative financial

instruments and hedging is a complicated task. The report is in accordance with disclosure

requirements however explanation remains way complicated for majority of report users.

In short, under the groups perspective, although it is not required to provide detailed

information on each item/matter to the public as long as the report provides true and fair


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condition of the firm, any single figure can mislead the report users thus create inefficiency and

lose investment opportunities.

5. Potential questionable Accounting NumberIn analyzing the 2011/12 Annual Report of Qantas, we have identified the following

questionable accounting numbers.

6. Undo Distortion Possibility

7. Media Reviews

During the financial year 2011/12, the media and press have been continuously reporting on

Qantas major issues arise. On the industrial dispute debate, Clayton Utz released an article in

March 2012 regarding the lock out that Qantas management took in response to the strikes from

ALAEA and TWU. After the urgent FWA hearing, Qantas was able to bring an end to the

protracted negotiations and trigger arbitration of the agreements. Since then, Qantas and the

unions were able to reach agreement but writer opined that Qantas dispute demonstrates the

need for legislative change to make it easier for an affected party to apply for suspension or

cooling-off of protected action.

Media discussion on Qantas also focused on several aspects of its accounts. The article Qantas

posts $244m loss, cancels order for new jets analyzed Qantass first reported net loss since it

went private in 1995. The article also quoted a survey by financial news service Bloomberg

which result demonstrated the level of disappointment of the public. However, investors were

pleased by the decision to cancel orders for 35 new Boeing 787s, which will save Qantas

approximately $AUD8.1 billion.


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1- http://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decision
http://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decisionhttp://www.mondaq.com/australia/x/234664/employee+rights+labour+relations/The+Qantas+dispute+employers+lockout+ministerial+intervention+and+Fair+Work+Australias+decision


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Appendices

INCOME STATEMENT

ANALYSIS

2012

($000)

2011

($000)

2012

%

%

Change

REVENUE Passenger 12,494 12,042 79.5% 3.75%

Freight $784 842 32.1% -6.9%

Other 2,446 2,010 15.6% 21.69%

EXPENSE Manpower/ staff related 3,774 3,695 23.7% 2.1%

Fuel 4,220 3,627 26.5% 16.4%

Other 2,828 2,455 17.8% 15.2%


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BALANCE SHEET

ANALYSIS

2012

($000)

2011

($000)

2012

%

%

Change

Assets Cash 3,398 3,496 16.0% (2.8%)

Receivables 1,111 1,027 5.2% 8.2%

PPE 14,139 13,652 66.8% 3.6%

Current

Liabilities

Payables 1,876 1,738 12.3% 7.9%

Revenue received in advance 3,172 3,067 20.7% 3.4%

Interest bearing liabilities 1,119 577 7.3% 93.9%

Non-CurrentLiabilities

Revenue received in advance 1,136 1,111 7.4% 2.3%

Interest bearing liabilities 5,430 5,454 35.5% (0.4%)

Provisions 737 647 4.8% 13.9%


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Documents

FRA Draft v3