Financial Reporting Disclosures in the Australian Corporate Sector - Essay Example

Running head: Financial Reporting Disclosures in the Australian Corporate Sector Financial Reporting Disclosures in the Australian Corporate Sector Insert Name Insert Course Title Insert Instructor’s Name 29 September 2011 Executive Summary Coca Cola Amatil LTD needs to ensure adherence to ASIC financial reporting requirements as per the corporations act with regards to the Australian Corporate Sector. The company needs to focus on adherence of disclosures of identifiable intangible assets, impairment testing on cash generating units, calculation of discount rates and growth rates, and sensitivity analysis to changes in key assumptions. According to the reporting standards, identifiable intangible assets should be recognized as during business formation and should be on the basis of their fair-values and cost approaches. More, the standards require that the identifiable intangible assets must be disclosed by means of subdividing the assets into classes with similar identifiable intangible assets being grouped together with regards to their usage and operations. Cash generating units impairment testing should be through the process of comparing the carrying amounts of identifiable intangible assets, goodwill working capital, and PPE of the cash-generating units. It is also important to note that valuation approaches during disclosure needs to be financial ratios and discounted cash flow. The company also needs to ensure that sensitivity analysis is done in case there are changes in key assumptions used during financial reporting. The importance of carrying out a sensitivity analysis to changes in key assumptions is due to the need to evaluate variations and their effects on financial reporting. Sensitivity analysis will also enable corrective actions to ensure compliance of financial reporting requirements. According to analysis of the company’s reporting practice, forecast must be corrected to be based on present value of future expected future cash flows. Forecasts on future cash flows must also be based on an established cyclic cash flow pattern. Table of Contents Introduction Identifiable Intangible Assets Impairment Testing on Cash Generating Units Calculation of Discount Rates and Growth Rates Sensitivity analysis to Key Assumption changes Financial Reporting Practice of CCA LTD Recommendations Financial Reporting Disclosures in the Australian Corporate Sector Introduction Corporate companies are subject to Corporations Act, which is being promoted by ASIC reviewers to ensure compliance with financial reporting requirements. The ASIC further provides non-compliance allowance for specific requirements to corporations. Confidence of investors and integrity levels in the Australian Corporate sector is largely boosted by the ASIC activities of monitoring corporation’s compliance to financial reporting requirements. Users of financial reporting and auditing information are able to make informed decisions about the reliability and relevance of financial reporting disclosures in the Australian Corporate Sector. There is need for Coca Cola Amatil LTD to ensure that their financial reporting standards adhere to the professional and legal requirements of the corporations act. The objective of these financial reporting disclosures report is to ensure that Coca Cola Amatil LTD adheres to corporate Act’s requirements of financial reporting disclosures in the Australian Corporate Sector. Identifiable Intangible Assets The corporate act specifies reporting standards that must be adhered to when disclosing information regarding identifiable intangible assets such as names of brands, relationship with customers and written off intangible assets of Coca Cola Amatil LTD. The company should disclose identifiable intangible assets that would have been recognized during business formation or combinations and research and development assets. These intangible assets do not include assets that are recognized through contract basis or any other means that is legal. During financial reporting disclosures, the identifiable intangible assets including goodwill should also be recognized at their fair values. The ASIC reviews disclosures based on a common standard of application guidelines and definitions. Financial reporting disclosures of identifiable intangible assets must be in a manner where the assets are subdivided into classes where similar identifiable intangible assets are grouped together with regards to usage and operational similarity. However, the subdivisions are in line with a common standard of identifiable intangible assets classes. This variation of class reporting follows the reporting by Statement, operating segment and technology basis. Reporting by statement basis regards optional relations to marketing, technology, customers, and contract and artistic based. The company must put into consideration that identifiable assets disclosure is a legal requirement and not a voluntary activity. Financial reporting Quantitative Disclosures of identifiable intangible assets including goodwill are based on fair-value and cost approaches. The approach of fair-value in disclosing quantitative information must be in line the standard disclosures measures. The fair-value approach disclosure should provide reliable information that can be of importance to researchers and corporate investors who are in need of obtaining estimate values for effective decision making on investment. , using researcher-generated models and proxies or other limited data. Options for fair value approach disclosure include Pro forma Statement 142 accounting to enable disclosure of written off assets, amortized assets, ending balance assets and assets that have been newly generated. The options also include fair values of identifiable intangible assets during closing of current periods and retained assets after disposing off.   The quantitative cost approaches to financial reporting disclosures in the Australian Corporate Sector could refer to FASB statement for guidelines with regards to what information is to be and not to be disclosed. The disclosure also includes costs of research and development of the company. Options that cost disclosure approach should follow include expenditures in current periods to uphold the relevance of current value in reporting particularly research and development. Other options include Pro forma cost based and pro forma retroactive financial reporting disclosure, which are also value relevant to identifiable intangible assets. These disclosure option also recognizes written off assets and amortized intangible assets in addition to value relevance. The cost approaches of Pro forma retroactive enables research and development costs to be expensed in intangible assets valuation before technical feasibility is achieved. The expensed costs and other costs are then capitalized retroactively for full creation of identifiable intangible assets (Walton, Haller & Raffournier, 2003, p.286-291). Financial reporting disclosures in the Australian Corporate Sector is measured as the variations of the aggregate fair value at the date of acquisition, non controlling interest and previously held interest by the acquirer. The net amounts should be measured in accordance with IFRS with regards to the assumed liabilities and the identifiable intangible asset amount as at the date of acquisition. Financial reporting disclosures in the Australian Corporate Sector recognize goodwill in profit and loss as a bargain purchase when the variations of non controlling interest and acquisition date’s amounts are negative. Impairment Testing on Cash Generating Units Impairment testing Cash-generating units is usually done periodically. Cash generating units impairment testing is done through the process of comparing the carrying amounts of identifiable intangible assets, goodwill working capital, and PPE of the cash-generating units. The fair values of cash-generating units are usually determined through economic value calculations. These economic value calculations are done based on future cash flows that are discounted through pre-tax discount. Cash flows for the future are calculated on the basis of budget estimations, company’s past performance, and expectations of both the external and internal market and actual operation income. IAS also requires that the future cash flows be calculated from a maximum of five years projection estimates. Projections other than the five-year projections as per the IAS requirements depict experiences of the past that indicates full market cycle in particular sectors lasting for a different number of years. The main objective of the Australian corporate sector reviewers is to determining the estimates of the economic value that concerns growth of revenue with regards to cash-generating units. The cash generating units’ impairment tests put into consideration the average annual growth of a company’s revenue. Projections of the company’s revenue growth are estimated on the basis of cyclical pattern that enables the aspect of a medium-term revenue growth due to a slow rate of occupational specialization and penetration of labor the is flexible into the market. Discount rate and average revenue growth of the groups of cash-generating units where a significant part of the goodwill is allocated on an annual basis (IASB, 2009, p.1752) Calculation of Discount Rates and Growth Rates Cash flows calculations are often subjected to varying discounting rates and growth rates that may have been calculated on the basis of unrealistic assumptions. Financial reporting disclosure in the Australian corporate sector is based on two main types of approaches that are recognized for valuation are the methods of financial ratios and discounted cash flow. Cash flows discounting are valued at enterprise value and equity cash flow. Equity cash flow is an approach that enables direct discounting of a company’s cash flow to the owners of equity. The discounted cash flow from this approach is recognized as share and dividends. The equity cash flow approach is however not useful in value creator’s identification and variations in the payout ratios of dividends with respect to the growth of the company even though the company’s performance of operations may remain the same. The discounting rates are therefore adjusted to bring into balance the effect of the dividend payout ratio. Due to this variations, the equity cash flow approach is the most appropriate approach when company’s are being valued and more so the banks whose liabilities are included in their operations. The approach of enterprise cash flow valuation puts into consideration operations value less debt value as the company’s equity valuation. The company’s operations valuation is done with respect to expected future cash flows present value. The future cash flow can be valued by taking earnings from operations and subtracting the cash items that had no effect on the earnings that were reported. The future cash flows value calculated is then summed up with non-cash items considered to have a reducing effect on earnings reported but at the same time were not expenditures. When valuing cash flows, pro forma projections are made a certain number of years into the future, and then a terminal value is calculated for years thereafter and discounted back to the present. The various unrealistic assumptions of calculating growth rates are based on forecast by the management and company budgets (Catty. 2009, p.515). Sensitivity analysis Financial reporting disclosures based on key assumptions may be varied and analyzed for sensitivity to the Coca Cola Amatil LTD reports when the key assumptions are changed. Financial reporting uses key assumptions such as the amount of sales, product prices, and costs of operations of the company to come up a report of projected and current financial statements. The key assumptions are used to come up with periodic projections where the future period’s projections may be less detailed as compared to current period’s reports. The change of the assumptions that are being used must be accompanied with sensitivity analysis of the financial reports. Sensitivity analysis to changes in key assumptions is carried out to evaluate variations and effects on financial reporting requirements for the necessary action. Sensitivity analysis is carried out to asses the degree to which future sales volumes can be improved while maintaining borrowed amounts at a certain limit, as well as ascertaining the impact of changing selling prices to come up with optimum sales volume price mix for maximum profitability. As a financial analyst, there is need to assess the effects of unrealistic assumptions of the company’s financial statement with regards to the reactions and effects of changes of key assumptions by the company. The assessment of the firm’s growth rate and profitability sensitivity from the projected financial statements based on the new key assumptions (Wahlen, Stickney, Brown, Baginski, & Bradshaw, 2010, p.846) Financial Reporting Practice of CCA LTD Coca Cola Amatil LTD financial reporting practice of intangible assets is based on the use of straight-line amortization of customers who are recognized to have finite life. Some brand names have indefinite useful life while others have finite life and they are amortized on straight-line basis. Intangible assets with indefinite life were tested for impairment and identified with the cash generating units while those with finite life were assessed for impairment indicators. Impairment is done by comparing the assets carrying amounts with recoverable amounts on the value in use basis, which is calculated using discounted cash flow methodology of 15-year period forecasts. Key assumptions for cash flow forecasts of Coca Cola Amatil LTD sales based on three-year business plans, weighted average costs discount rates and forecast growth rates of 0-2 percent that are used in calculation of brand residual value. The potential gap between the Coca Cola Amatil LTD and the accounting standards requirements lies on the three-year business plan forecast cash flow. The accounting standards require that the cash flow forecast assumptions should be based on present value of future expected future cash flows. The future cash flow forecasts must be based on cyclic cash flow pattern establishment. Recommendations After a thorough analysis of the Coca Cola Amatil LTD means of disclosing their financial reports, there is non-compliance to the calculations of discount rates and growth rates. Recommendations with regards to Coca cola Amatil LTD financial reporting practice, the practices should put into consideration the present value of the expected future cash flows with regards to determined cash flow patterns that are consistent with cyclic pattern. References Wahlen, J.M., Stickney, C.P., Brown, P., Baginski, S.P., & Bradshaw, M. (2010). Financial Reporting, Financial Statement Analysis and Valuation. OH: Cengage Learning. Catty, J.P. (2009). Wiley guide to fair value under IFRS, International financial reporting standards. NJ: John Wiley and Sons. IASB. (2009). International Financial Reporting Standards. NY: Kluwer. Walton, P. Haller, A., & Raffournier, B. (2003). International Accounting. OH: Cengage Learning EMEA. Read More