Australian

School of Business
ACCT1501 Accounting and Financial Management 1A
Session 1 2013

TUTORIAL WEEK 11 Solutions to Tutorial Questions
Tutorial Questions:
v DQ 15.1, 15.3, 15.13; Problems 15.2, 15.13, Case 15A
DQ15.1
The purpose of financial statement analysis is to use the financial statements to evaluate an
enterprises financial performance and financial position.
DQ15.3
Before calculating ratios the following information about a company should be gathered:
i The nature of the enterprise, its circumstances and plans. Some of this information may be
provided in the descriptive sections of the companys annual report as well as the footnotes to
the financial statements.
ii The nature of the decision or evaluation to which the analysis will contribute.
iii Comparative information to provide a frame of reference for the analysis. This could
include industry data, reports by other analysts, results for similar companies or the same
company in other years.
iv Other possible sources are:
prospectus relating to new issue of shares or debentures.
a market research to ascertain acceptability of the companys products.
a scientific examination of the companys products.
the financial press for stock exchange valuations of the companys shares and comments on
the annual report.
government or trade statistics, which may indicate share of the market.
DQ 15.13
These are rough notes. The specific contents of the speech would vary from person to person;
perhaps the notes below will prompt further ideas.
Analysis and use of financial accounting information
i Important to understand the nature of the information, e.g.:
historical transaction basis of accounting
accrual accountings approximation of economic performance
generally accepted accounting principles
role of the audit

ii

iii

iv

standard set of financial statements

Essential to shape the analysis to its purpose, e.g.:
evaluation of managerial performance
assessment of liquidity, solvency, risk
estimation of future profit and/or cash flow
short- vs. long-term decision/investment horizon
valuation of company shares
valuation of the whole company
Nature of ratio analysis and associated techniques, e.g.:
ratios are just boiled down accounting figures
therefore they have the strengths and weaknesses of the original figures
little meaning on own: meaning comes from comparisons with other companies or
other years for same company
if the original figures are not fully comparable, adjustments may be needed to
make the ratios meaningful
many ratios (e.g. return on assets, return on equity) are scale free in that they
arithmetically remove the effects of size of the company and so allow different
sized companies to be compared
Essential to know the company well, e.g.:
what is the nature of the business
what are managements strategies and plans
what is the financial and legal structure of the company (such as shares,
subsidiaries, borrowings)
what are the companys prospects
Some applications of financial analysis, e.g.:
separating operating return from financial return (leverage)
relating company performance to stock market returns
showing the time trend of profits and other important measures
relating profit levels to cash flows
evaluating the investment advice available from brokers and other advisors
planning an investment strategy

Problem 15.2
1

2
3
4
5*

6
7
8

Transaction analysis
Inventory
Accounts payable
Loan payable
Cash
Retained earnings
Dividends payable
Cash
Loan payable
Cash
Revenue
Investments
Cash
Share capital
Cash
Accounts receivable
Cash
Loan payable

Current
Decrease

Quick
Decrease

Debt/Equity
Increase

EPS
No effect

Decrease

Decrease

Decrease

No effect

Decrease

Decrease

Increase

No effect

Increase

Increase

Increase

No effect

Increase

Increase

Decrease

Increase

Increase

Increase

Decrease

Decrease

No effect

No effect

No effect

No effect

Increase

Increase

Decrease

No effect

Problem 15.13
Profit Before Tax

Cash Flow From

Operations

Current Ratio

a.

N/E

N/E

DEC

b.

INC

N/E

INC

c.

INC

N/E

INC

d.

INC

N/E

N/E

e.

INC

N/E

INC

f.

DEC

N/E

DEC

g.

N/E

INC

DEC

h.

DEC

N/E

N/E

Cases 15A
- Woolworths has a higher return on equity of 24 per cent compared to 8 per cent for Wesfarmers. It is
expected, however, that the gap will bridge with time given the new retail initiatives of Wesfarmers.
- Woolworths have a higher gross margin of 7.4 per cent compared to 4.2 per cent for Wesfarmers in
2011. It is expected that Woolworths high margin will be competed away as rivals capture the market
while Coles has the scope to increase margins by reducing cost and increasing efficiency.
For Woolworths, the key strengths are its high return on equity and gross margin. However, these can
also become weaknesses as the company expands (return on equity will drop in the short to medium
run) and as rivals increase competition (gross margin will drop).
For Wesfarmers (Coles), the key strength is its high earnings per share which is keeping the
shareholders interested in the company. It also has the scope to increase its gross margins by
improving supply chain efficiency and reducing cost. The return on equity is also likely to improve
once the capital investment costs (such as acquisition of Coles in 2007) are phased out over time.