Hi5020 Corporate Accounting: Cash Flow Assessment Answers

Select a public limited company listed on the Australian Securities Exchange (ASX). Go to the  website of your company. Then go to the Investor Relations section of the website. This section may be called, “Investors”, “Shareholder Information” or similar name.

In this section, go to your firm’s annual reports and save to your computer your firm’s latest Annual  reports consecutively for last three years. For example, these may be dated 30 June 2016 or  31 March 2017. Do not use your firm’s interim financial statements or their concise financial statements.  Please read the financial statements (balance sheet, income statement, statement of Changes in owner’s equity,  cash flow statement) very carefully. Also please read the relevant foot notes of your firm’s financial statements carefully and include information from these foot notes in your answer.

Need to do the following tasks:

Cash Flows Statement

(i) From your firm’s financial statement, list each item of reported in the CASH FLOWS STATEMENT and write your understanding of each item. Discuss any changes in each item of CASH FLOWS STATEMENT for your firm over the past year articulating the reasons for the change.

(ii) Provide a comparative analysis of your company’s three broad categories of cash flows (operating activities, investing activities, financing activities) and make a comparative evaluation for three years.

Other Comprehensive Income Statement

(iii) What items have been reported in the other comprehensive income statement

(iv) Explain your understanding of each item reported in the other comprehensive income statement

(v) Why these items have not been reported in Income Statement/Profit and Loss Statement Accounting For Croporate Income Tax

(vi) What is your firm’s tax expense in its latest financial statements?

(vii) Is this figure the same as the company tax rate times your firm’s accounting income? Explain why this is, or is not, the case for your firm.

(viii) Comment on deferred tax assets/liabilities that is reported in the balance sheet articulating the possible reasons why they have been recorded.

(ix)Is  there any current tax assets or income tax payable recorded by your company? Why is the income tax payable not the same as income tax expense?

(x) Is the income tax expense shown in the income statement same as the income tax paid shown  in the cash flow statement? If not why is the difference?

(xi)What do you find interesting, confusing, surprising or difficult to understand about the treatment of tax in your firm’s financial statements? What new insights, if any, have you gained about how companies account for income tax as a result of examining your firm’s tax expense in its accounts?

Cash Flow Statement:

Part (i):

This paper incorporates certain items that are mentioned within a cash flow statement of a particular organization. In this paper, Wesfarmers Limited is being chosen and its cash flow items are mentioned. The cash flow statements include the three important heads namely cash form operating activities, investment activities and financial activities (Armstrong et al. 2015). Considering the operating activities, the most imperative items in this are the payment received from customers, imbursement to suppliers, any kind of interest received or interest paid as well as others. The payment from customers are those amounts which the company received against the sale of product or service it made. Wesfarmers have witnessed an increase in receipt from its customers to $74,042 million in 2017 against $71,157 million in 2016 (Robinson, Stomberg, and Towery 2015). Contrary to this, the reimbursement to suppliers are those amounts which the organization owes to its creditors. In this case also, the payment made to creditors is higher than it was in previous year. Interest received on the other hand is the amount which an organization receives from its debtors for using its money for a certain period of time. In case of Wesfarmers, the interest received witnessed a fall to become $83 million in 2017 from $131 million in 2016 as it recorded a certain portion of the same as bad debts. Interest paid, on the other hand is the obligation for the organization against the debt it has taken. In case of the aforementioned organization, the cost of borrowing was low owing to fall in the interest rate of the market as a whole (Balakrishnan, Blouin and Guay 2018).      

In concern to the investment activities of Wesfarmers Limited, the main items are transaction related to property, other assets as well any returns from investment of any type. It also considers any kind of purchase or acquisition of certain asset in order to gain economic benefit. In 2017, it has been noticed that Wesfarmers has reduced its purchase of assets but the there has been a huge change in investment activities due to the organization’s take on sale of assets which has increased on yearly basis. Investment activity is considered when the long-term assets is either purchased or sold. The proceeding which has been generated from joint agreement as well as associates in 2017 have contributed significantly towards Wesfarmers Limited’s activities. However, the amount remained stable on year-on-year basis. A loan note is again an instrument encompassing the loan agreement considering the amount payable with its interest during a certain period of time. An investment of $47 million have been made by Wesfarmers Limited in 2016 with redemption in loan notes of about $54 million.   

The proceeding from borrowing or paying dividends to the investors could be considered as the financial activities within the cash flow statement. Wesfarmers Limited witnessed a substantial fall in its transactions from borrowing as debtors have extended their loan terms. Borrowing could be considered as the amount which lender provides under an agreement of loan. Equity dividend is again a payment to the shareholders against the share they are holding as a reward. Wesfarmers Limited’s payment of equity dividend has been reduced in 2017 due to its increasing focus on retained earnings.  

Part (ii):

As mentioned in the section above, the cash flow portion from the financial statement of Wesfarmers Limited has been provided with its three activities stated as cash flow from operations, investment and financial activities (Bargeron, Denis and Lehn 2014). However, the reasonable assessment of each of the categories of financial statement for the last three years is showed as follows:

 

Figure 1: Comparative analysis of cash flow categories of Wesfarmers Limited for the years 2015-2017

From the chart above, it can be clearly seen that the flow of cash from the operating activities have elevated to $4226 million in 2017 from $3365 in 2016 which witness a fall from $3791 in 2015. The primary reason for the same is collection of a considerable amount of cash from its customers coupled with a fall in income tax expense over the past three years. Comparatively, the cash from investment recorded an increase in 2016 was $2132 million against $1898 million in 2015 but declined massively to $53 million in 2017 (Cazier, Rego, Tian and Wilson 2015). This was the result of reduced acquisition of asset by Wesfarmers limited. Finally, the cash flow from financing activities has decreased massively to $1333 million in 2016 from $3249 million in 2015 but the same has increased to $3771 million in 2017. The organization incurred hugely towards clearance of bank loans in 2017 which raised its cash from financing activities.

Other comprehensive income statement:

Part (iii):

The other comprehensive income statement of Wesfarmers Limited includes the following:

• Foreign currency translation reserve
• Cash flow hedge reserve
• Retained earnings

Part (iv):

Generally, the companies which have subsidiaries in other countries earn in the currency of its location. Hence, when the earnings from those subsidiaries are consolidated with that of the parent company’s earnings the foreign currency is converted to the currency in which the parent company reports (De Simone 2016). This hold a vital significance during the process of consolidation of financial statement. In this process the foreign currency is initially ascertained for being the cross-border currency. As the process is over, the foreign financial statement is gauged so as to translate the currency into that which the parent company follows. Hence, the profit earned or losses incurred is translated into the domestic currency and recorded as it is supposed to be.

In case when the organizations look forward to reduce the exposure arising from the cash flow changes from financial activities owing to movement in some specific rate of risk or interest on some financial instrument then this can be known as cashflow hedge reserve. On the other hand, retained earnings refers to the portion of the profit which is instead of being divided among the shareholders is put back into the business (DeBacker, Heim and Tran 2015). It is generally done in order to invest in some core business operation or even clearing some obligation.

Part (v):

A diversified assessment of the total earnings is also viewed as the other comprehensive income. During the time when traditional techniques were used, then the variations of the organization’s earnings were seen as the external earnings which was out of core business operation and deemed as highly volatile and hence were moved to the shareholder’s equity. However, in case of Wesfarmers Limited, they use the comprehensive income statement to contribute significantly on the figures of aforementioned items (Devereux, Liu and Loretz 2014). The sum of net earnings and other comprehensive statement could be termed as the comprehensive statement. The comprehensive as well as holistic overview of the key influencers of business operations and activities could be reported in the comprehensive income statement as it is barred from being recorded in profit & loss account.

Accounting for corporate income tax:  

Part (vi):

There are various kind of expenses which occurs to a business including the selling expenses, administrative expenses, cost of research and development as well interest and tax expenses. Tax expense is considered as one of the most significant liability as it cannot be dodged and the company is liable to pay it to the government. Tax expense is calculated as the product of the profit before tax and the tax rate. The tax rate is applicable post factoring of some of the items like tax asset as well as non-deductible liabilities item (Donohoe 2015). Wesfarmers being a huge entity contributed hugely towards government earnings through tax. It reportedly spent $1265 million as tax in 2017 against $631 million in 2016. The tax rate which Wesfarmers uses is 30% as the same is standardized by the government as corporate tax in Australia. If this rate is considered then the tax expense for the Wesfarmers Limited comes at ($4,138 million x 30%) in 2017 at $1241 million and $311.40 million ($1,038 million x 30%) in 2016. It can be clearly seen that the tax of Wesfarmers has increased on Y-o-Y basis which reflects the rise in its income and even it has a tax asset which keeps it on the positive side (Dyreng et al. 2017).

Part (vii):

As published in the annual report it can be seen that the profit before tax of the organization is $4138 million against $1038 million in 2016. Furthermore, the tax rate which has been assessed earlier is at 30%. If this rate is applied on the profit before tax then the tax expense of Wesfarmers would come to $1241.4 million in 2017 ($4,138 million x 30%) and in 2016 it is $311.4 million ($1,038 million x 30%) (Evangelinos, Nikolaou and Leal Filho 2015). However, as per the annual report, the tax which has been paid by Wesfarmers are $1265 million in 2017 and in 2016 it was $631 million. Therefore, it is clear that the tax is calculated differently by the company and the income tax department or the period of assessment is different (Sikka 2015). Wesfarmers is observed to have included as well as excluded a few items while its tax calculation which resulted in difference in tax burden. In the total tax expenses assessed by Wesfarmers, it has adjusted the non-deductible expenses before arriving at the profit before tax. It also adjusted the various tax rates which its subsidiaries incurred during their operations. As Wesfarmers majorly operates in Australia and New Zealand, the tax rates in both the countries are different such as 30% in Australian and 28% in New Zealand (Gupta and Lynch 2015). Wesfarmers has also received benefit for its deferred tax assets along with the non-assessable income which difference between the difference in tax rate.

Part (viii):

Deferred tax asset is the asset where the company has paid higher tax for the previous year and hence it gets adjusted in the current year. In other words, it is a portion of tax which has been paid in advance. In case of Wesfarmers, the deferred tax asset was $971 million in 2017 against $1042 million in 2016. Similarly, the tax liability was $722 million in 2017 against $611 million in 2016. These assets are realized due to additional reimbursement for depreciation which was because of difference of tax rate of depreciation (Klassen, Lisowsky and Mescall 2015).

Part (ix):

In Australian, paying income tax is mandatory and is considered to be very significant out of responsibility. As per the annual report of Wesfarmers, the company had a tax liability of $292 million in 2016 against $29 million in 2016. However, there lies a difference between the tax expenses and liability which is the tax asset it obtained. Moreover, another reason for the same is difference between accounting time and style (Markle 2016).

Part (x):

It has been observed that Wesfarmers reported its tax expenses in both income statement and cash flow statement. However, there is a difference between both the amount mentioned. In income statement the amount is $1265 million while in cash flow statement it is $951 million in 2017 (Powers, Robinson and Stomberg 2016). The parity is due to consideration of tax expense including other items in income statement while in cash flow it is the tax from the earnings from operating activities. The organization considers payment of income tax within the current assets but in cash flow, Wesfarmers reduced amount show the use of cash. Hence, Wesfarmers did not consider a few tax expenses in the cash flow statement.

Part (xi):

There is no surprising element in evaluation of treatment of tax in Wesfarmers. It symbolizes that the company has followed all the tax regulation of Australia. It also provides with brief of any adjustment done.  It has also provided with working notes in the financial statement in order to support its auditing method (Rifat 2016). Hence, it can be concluded that the five interesting influential dynamics has significantly contributed towards the understanding of treatment of tax by the organization.

References

Armstrong, C.S., Blouin, J.L., Jagolinzer, A.D. and Larcker, D.F., 2015. Corporate governance, incentives, and tax avoidance. Journal of Accounting and Economics, 60(1), pp.1-17.

Balakrishnan, K., Blouin, J. and Guay, W., 2018. Tax Aggressiveness and Corporate Transparency. The Accounting Review.

Bargeron, L., Denis, D. and Lehn, K., 2014. Taxes, investment, and capital structure: A study of US firms in the early 1900s.

Cazier, R., Rego, S., Tian, X. and Wilson, R., 2015. The impact of increased disclosure requirements and the standardization of accounting practices on earnings management through the reserve for income taxes. Review of Accounting Studies, 20(1), pp.436-469.

De Simone, L., 2016. Does a common set of accounting standards affect tax-motivated income shifting for multinational firms?. Journal of Accounting and Economics, 61(1), pp.145-165.

DeBacker, J., Heim, B.T. and Tran, A., 2015. Importing corruption culture from overseas: Evidence from corporate tax evasion in the United States. Journal of Financial Economics, 117(1), pp.122-138.

Devereux, M.P., Liu, L. and Loretz, S., 2014. The elasticity of corporate taxable income: New evidence from UK tax records. American Economic Journal: Economic Policy, 6(2), pp.19-53.

Donohoe, M.P., 2015. The economic effects of financial derivatives on corporate tax avoidance. Journal of Accounting and Economics, 59(1), pp.1-24.

Dyreng, S.D., Hanlon, M., Maydew, E.L. and Thornock, J.R., 2017. Changes in corporate effective tax rates over the past 25 years. Journal of Financial Economics, 124(3), pp.441-463.

Evangelinos, K., Nikolaou, I. and Leal Filho, W., 2015. The effects of climate change policy on the business community: a corporate environmental accounting perspective. Corporate Social Responsibility and Environmental Management, 22(5), pp.257-270.

Gupta, S. and Lynch, D.P., 2015. The effects of changes in state tax enforcement on corporate income tax collections. The Journal of the American Taxation Association, 38(1), pp.125-143.

Klassen, K.J., Lisowsky, P. and Mescall, D., 2015. The role of auditors, non-auditors, and internal tax departments in corporate tax aggressiveness. The Accounting Review, 91(1), pp.179-205.

Markle, K., 2016. A Comparison of the Tax?Motivated Income Shifting of Multinationals in Territorial and Worldwide Countries. Contemporary Accounting Research, 33(1), pp.7-43.

Powers, K., Robinson, J.R. and Stomberg, B., 2016. How do CEO incentives affect corporate tax planning and financial reporting of income taxes?. Review of Accounting Studies, 21(2), pp.672-710.

Rifat, A., 2016. Secret Reserve Accounting: From the Perspective of Management, Shareholders and Employees. Journal of Commerce and Accounting Research, 5(4).

Robinson, L.A., Stomberg, B. and Towery, E.M., 2015. One size does not fit all: How the uniform rules of FIN 48 affect the relevance of income tax accounting. The Accounting Review, 91(4), pp.1195-1217.

Sikka, P., 2015. The hand of accounting and accountancy firms in deepening income and wealth inequalities and the economic crisis: some evidence. Critical Perspectives on Accounting, 30, pp.46-62.

Turner, J.A., 2014. Teaching the Effects of Risky Debt and Financial Distress Costs Using Consistent Examples. Journal of Financial Education, pp.114-139.