Straits Resources Limited Financial Analysis - Assignment Example

Question 1 (10 Marks) 2014 financial year annual report of Straits Resources Limited, and fill in the following table Information Required Answer ASX code ASX:SRQ Listing date 02/02/2011 Industry Mining Number of subsidiaries Seven Financial year end 30th June 2014 Audit firm PricewaterhouseCoopers Audit partner Debbie Smith Audit opinion The report of Strait has been done in accordance to the Corporations Act 2001. Also, the report has given a true and fair view of its financial statement. The notes to the financial statement also complies to international reporting standards Audit opinion date 28th August 2014 Total financial report audit fees $301,603 (Pg 114-115) Total other auditor remuneration $125,623 (Pg 114-115) Question 2 (50 Marks) Using the table provided below to prepare a memo: (a) Outline five factors that may have impact on business risks (with reference to your information source, and, if from the annual report, refer to the page number). (5*2=10 marks) (b) Identify five factors that may have impact on inherent risk or control risk (with reference to your information source, and, if from the annual report, refer to the page number). (5*3=15 marks) (c) For each factor identified from (b), comment on accounting issues identified and management assertions affected (5*5=25 marks) Client Straits Resources Limited Period-end Done by Business risks facing Straits Resources Limited (Bullet-point descriptions of individual risks here) Market fluctuations – different economic cycles as well as shifts of end users affect business risks (Straight resources limited, 2014; p97).  Fluctuations of interest rates and foreign exchange – due to the group’s involvement in business activities in various regions of the world and in wide range of currencies, the changes in interest rates and foreign exchange affect the production cost, selling price, manufacturing, liabilities and income (Straight resources limited, 2014; p97,99, 101).  Natural disasters – the group’s operations may be affected by earthquakes, accidents and other natural disasters. Such disasters impact on business risk (Straight resources limited, 2014; p13).  Competition – the mining and exploration industry has many and established competitors. This exposes the company to fierce competition from the rival multinational companies. As such, the company must improve its competitiveness through developing cutting edge technologies in exploration and production, standardisation. This affects business risk (Straight resources limited, 2014; p41&42).  Financing – availability of finances from financial institutions and other sources impacts business risk. In addition, an entities ability to obtain financing is a major factor impacting business risk (Straight resources limited, 2014; p8).  Audit risk factors to be considered (Bullet-point descriptions of individual factors here) Rapid change – holding inventory that becomes obsolete quickly impacts on inherent risk (Straight resources limited, 2014; p44, 102).  The economic state – the state of the economy as well as the general level of economic growth is a major factor impacting inherent risk (Straight resources limited, 2014; p101).  Availability of capital – financing is also a major factor in inherent risk, the interest rates as well as availability of financing affects inherent risk. If a business is having problems in meeting short term cash obligations or obtain short term loans may make a business to lose customers (Straight resources limited, 2014; p44).  Susceptibility to fraud or theft – some assets in a business are highly susceptible to theft such as cash. A business with cash payment method or with customers paying in cash is considered inherently risky. As such, this impacts on inherent risk. Misstatement in the past – if a business or company has made misstatements in the past, they may influence the future statement of the company as their effects still affects the financial statement (Straight resources limited, 2014; p6597).  Accounting issues identified and related assertions affected For the bullet-point descriptions of each factor identified above, comment as below: Accounting issue: inventory accounting Key Assertion affected: accuracy and valuation. Rapid changes of inventory accounting policy could affect their true value and accuracy as well. Change from one policy to another abruptly does not reflect the true value of inventory. Accounting issue: cost of doing business Key Assertion affected: classifying and understanding costs in harsh economic times is very important. High interest rates, high inflation and fluctuating exchange rates increase the cost of doing business. As such, the company should understand the rising costs and classify costs appropriately to the period they are incurred. Accounting issue: financing Key Assertion affected: rights and obligation. There should be clear rights on the persons responsible for authorising financing. This person should be held responsible for any misappropriation, availability or non-performance of capital. Accounting issue: risk management Key Assertion affected: completeness and accuracy. The company should ensure that all transactions that need to be recorded are recorded and that there should be segregation of duties. No one person should record a transaction from the beginning to the end. This would reduce susceptibility of errors and frauds. Moreover, all amounts relating to recorded transactions should be recorded with the accurate or the correct amounts. Accounting issue: financial reporting Key Assertion affected: cut –off all events and transactions should be recorded in their correct accounting period. Question 3 (20 Marks) (a) Calculate the following financial ratios (including the calculations as appendix). (0.5*16=8 marks) Ratios 2014 2013 Current ratio 0.280510416 0.41490893 Quick asset ratio 0.188646735 0.31639253 Receivables turnover ratio 18.67314065 16.62366663 Return on assets 0.316714895 1.052812311 Return on equity 10.02657343 7.382668712 Debt/Equity 0.743881119 1.767699387 Debt/Asset 0.023497382 0.252084409 Net profit ratio 0.282710177 1.443311025 (b) Comment on the company’s liquidity, activity, profitability, and solvency based on the ratios from (a). Explain how the ratio analysis may have influenced the audit. (3*4=12 marks) Liquidity The liquidity ratios indicate that the company is not capable of meeting its short term obligations. The current ratio dropped from 0.41 to 0.28 from 2013 to 2014 respectively. However, the ratio is still lower than 1, which is the industry average. The ratio of less than one means that the company does not have enough current assets to meet its current obligations. The current ratio also dropped from 0.32 to 1.9 from 2013 to 2014 respectively. Still, the company cannot be able to meet its short term obligations without its inventories. The company should not commit in too much short term obligation as this would hamper its long term growth (Straight resources limited, 2014; p65).  Activity The activity ratios indicate that the company management is not efficient enough. The receivables turnover ratio increased from 16.6 in 2013 to 18.7 in 2014; this indicates how fast the company converts inventories in to sales. Although there is an improvement, the company can still do more in converting inventories in to sales (Straight resources limited, 2014; p63&65). Profitability The profitability ratios indicate that the company is not able to earn good returns on the resources committed to the business. The net profit ratio improved from a loss in 2013 of (1.44) to o.28 in 2014. The current ratio of 0.28 is somehow favourable. The company can still do more to improve its profitability. The company made a net loss in 2013. The return on assets is impressive for 2014 at 0.32; the return on equity is also good at 10.0 in 2014 as well. This means that the management of the company should increase its ability in controlling expenses and making wise investment decisions to earn good returns on capital committed (Straight resources limited, 2014; p63).  Solvency The 2014 debt to equity ratio is 0.74; this was down from 1.1.77 in 2013. This is below the industry average and recommended level of 70% equity and 30% debt. Moreover, the debt to asset ratio is 0.02 for 2014 and 0.25 for 2013; this means the company has more debt than assets. The company has 74% debt and 26% equity; this means that the company is highly geared. The solvency ratios indicate that the company does not have ability to raise additional debt; its liquidity is very high. The capacity of the company to pay its liabilities on time is in danger (Straight resources limited, 2014; p65). All the ratios above fall below the industry average, this is a great concern to the company management. The ratio analysis may have influenced the audit as the auditors may have given unfavourable audit opinion. The auditors may also have given their concerns with the audit. This would have made the company to lose some customers as many would not be willing to risk their resources in dealing with the company. Question 4 (40 Marks) Read through the notes to the Financial Statements, and then (a) Identify five accounts you are most concerned about and explain why you are concerned. (2*5=10 marks) Capital management –interested in this account because the audit reveals that the company management is not utilising the available capital for the right purposes. The company has a lot of debt as opposed to equity and asset financing; it is financed by debt which makes the company geared. The management has indicated lack of ability in managing capital. (Straight resources limited, 2014; p103,105) Revenue – the conversion of receivables and inventories in to sales is still low. The audit reveals that the company is not doing enough to convert inventories in to revenues. The amount of revenue generated dictates the amount of profit made. This would also revenue the amount of revenues generated and accounted for. (Straight resources limited, 2014;p75) Expenses –As indicated above, the company management has lost control of the company expenses. Too many expenses without corresponding revenue generation. This account would reveal the real reason for incurring such expenses. (Straight resources limited, 2014;p76) Equity – this represents the company ownership. Equity is the main source of capital for the company. This would reveal the usage of the equity capital as well as earnings attributed to the equity holders. Usage of equity for business purposes would also be of concern as well. (Straight resources limited, 2014;p94) Financial assets and financial liabilities – this is of concern as it would reveal the company creditors and how much the company owes them. This would also reveal the payment schedules as well as how the resources are used. (Straight resources limited, 2014;p79) (b) Design a preliminary audit plan by providing two audit procedures to test the assertion(s) at risk for each of the five accounts you are concerned about (make sure you tailor your procedures to the specific accounting policies of the company). Present the audit program in a working paper format. (4*5=20 for audit procedures, 8 marks for working paper presentation, 2 bonus marks for the clarity, total 30 marks) Audit procedures Capital management Existence - Check whether the capital management system is functioning effectively Right and obligation - Check whether the responsibilities and roles of the management are performed appropriately. Revenue Completeness – check for separation of duties Classification – check whether the balances reflect the source documents Expenses Rights and obligations – check whether there was proper authority to make expenses. Conform the amounts with the source documents Existence – check the existence of the source documents with completeness. Equity Accuracy – check for the rightful holders with the respective shareholding. Confirm valuation. Occurrence – call the equity holders and get their details to confirm their existence and if there are the ones. Financial assets and financial liabilities Occurrence and valuation – call and send circular to the holders to confirm their existence. Authorisation – check the persons responsible for authorising the assets and the liabilities. Question 5 (40 Marks) Read the Independent Audit Report, and then (a) Comment on the type of audit opinion the auditor had issued with reference to Australian Auditing Standards. (10 marks) The type of audit opinion given by the auditor is unqualified opinion. This is because the auditor indicates that the company financial statements comply with Corporations Act 2001 and Corporations Regulations Act 2001. The opinion is in accordance to the Australia auditing standards. However, the auditors have drawn a material uncertainty regarding continuation as a going concern. (b) Referring to Australian Auditing Standards on going-concern opinion (ASA570), identify two (2) factors (financial, operating, and/or other) that may have triggered an issuance of going-concern opinion. Explain how the factors apply to the company. Further identify and comment on any potential mitigating factor(s) proposed by management or supported by any information you identified. (With reference to the page number of the financial report or information sources you identified). (20 marks) Factors (financial, operating, and/or other) that triggered an issuance of going-concern opinion per ASA 570 (6 marks) How the factors apply to the company (6 marks) Potential mitigating factors proposed by management or supported by any information you identified (8 marks) The factor that triggered the issuance of a going concern by the auditor is the too much borrowing. The company is borrowing too much funds and yet it is not able to repay the debt. To make matters worse, the company made a net loss including a loss from its continuing operations. (p69) The company is not able to repay its short term and long term debts promptly as it is not making profits. It is borrowing funds to get working capital and hence has a working capital deficiency of $115.3 million. The debt should go towards generating more funds but not as working capital. Exceeding the production of cooper (p69) Cease funding for some of its subsidiaries (p70) Sale of subordinated debt Generation of positive cash flow from operating activities during the period under study (p69) Inefficient operations The company, though with funds to employ in generating more revenues, does not use the funds for the purpose they are supposed to. The management is ineffective and not efficient in allocating funds. As such, the company is borrowing funds but not generating enough cash flow to warrant the repayment of the debt. This indicates that the company management does not have the ability to management the capital. This is one of the main reasons for the company's current state. The management to use the borrowed funds purely for generating revenue. The funds would be committed for operations aimed at generating more revenue. (p69) The company to freeze borrowing funds and immediate settlement of creditors. (p70) (c) Assume that the company’s management had refused to disclose Note 1 (a) regarding going-concern in the financial reports; would this refusal have had any impact on the audit opinion? (Justify your answer with reference to the ASA570) (10 marks). If the company's management has refused to disclose note 1 (a) regarding going concern, the audit opinion would have changed. There would have an impact on the audit opinion. The auditors would have issued a qualified audit opinion; they would have maintained that they have exceptions to the current accounting applications used by the company. The Australia standards on auditing indicate that the management should indicate any material of concern and that affects the company in the notes. The failure to disclose such material note would have warranted the auditors to issue unqualified opinion. The note is of much importance as it presents a material fact and occurrence. THE END Appendix Ratios Formula 2014 2013 Current ratio Current assets/current liabilities 44933/160183 64854/156309 Quick asset ratio (Current assets – inventories)/current liabilities (44933-14715)/160183 (64854-15399)/156309 Receivables turnover ratio sales/average receivables 202865/10864 166752/10031 Return on assets Net profit/assets 57352/181084 240675/228602 Return on equity Net profit/equity 57352/5720 240675/32600 Debt/Equity Debt/equity 4255/5720 57627/32600 Debt/Asset Debt/assets 4255/181084 57627/228602 Net profit ratio Net profit/sales revenue 57352/202865 240675/166752 Read More