Free Cash Flow
This was a big
lesson for me as I automatically just assumed if a company had a good cash flow
that it was a goer! I never thought whilst
cash flow indicates how much cash is available for the business it is not a
good gauge of profitability and says nothing about if the company is adding
value and moving forward. To me this is
kind of the same mistake I made with just assuming if an entity had a lot of
cash at bank than it was also a sure thing??!!
Profitability and efficiency
I would sum up
economic profit as how the business is using its assets (RNOA) to create
value. Are they performing efficiently
and effectively or could the resources have been utitlised better in another
manner? In my view a company can still
be profitable but not working efficiently however over time contributing
factors to the inefficiencies will do a full circle and will catch up in the
end.
‘Opportunity cost of capital’ is another
concept I have used numerous time for making decisions for personal reasons. Years ago when I was trying to convince my
partner the benefits of purchasing an investment property and using this is to
negative gear and get a tax benefit over the dead money we were paying in tax. He was of the opinion to play it safe and put
any spare cash into the bank and earn a little interest.
I thought the
‘opportunity cost of capital’ would prove to be more beneficial over time spent
in property investment and tax relief.
Then the market in Port Douglas has pretty much slowed right down to a
crawl so the jury is still out on that one, lol!
Dividends and cash flow
This is still a
subject of confusion for me. I don’t
even know where to start with why this confuses me – but I am pretty much at a
loss as to how a company decides how much dividends to pay, retain and so
forth.
Restating Financial Statements
The essential
reason for restating each of the financial statements is the same – to clearly
separate financial activities
from those of the operations. My thoughts are that the operational side of
business is the fundamental side of WHY a business IS in business and the
reason as to whether or not operations will be successful or not – the
financial side is almost the ‘side-car’ of the operations.
Operational
activities are the everyday interactions of a business – suppliers and
customers. When looking at an item
trying to decide whether it is financial or operational I just think “is this as a result of an interaction
between the business/supplier/customer?” – if yes, then it is
operational. If not, it would have to be
as a result of a financial transaction with a debt or equity investor and
therefore a financial activity.
I think my
biggest questions to date would be about goodwill. I honestly cannot decide
financial or operational – it seems to be sitting on the fence.
Tax Benefits
Going back to my
example of discussing my desire to purchase an investment property with my
partner. Essentially what I did was
roughly give him a before and after picture of what our tax assessment would
look like if we proceeded with the purchase.
The big incentive was the tax break would we receive as a result. This along with the “cost of capital” and
other potential uses and the fact that the property value is increasing
(slowly) all ended up with us going ahead with the purchase.
Why we are restating financial statements
In my view, why
were are restating financial statements is to give a no-frills view of the
operations of our business, a clean picture of what is happening with the cogs
and wheels. As I stated before, the
financial side is a by-product, of course essential, but is not what makes a
business tick.
Step 2: Restating
Your Firm’s Financial Statements
Issues and concerns
On face value I
felt that it was quite easy to decide what is operational (supplier/customers)
and what is financial (equity/debt). What
I have struggled with is when I start to think further about the “root cause”
of an activity. For example Cash flow
hedge - loss/gain taken to equity: From
my what I can understand that hedges are a way of accounting to provide a type
of offset for a probable variation in cash flow. As the cash flow is almost certainly to be as
a result of operations I would list this as operational. But then if I think about it even deeper –
the results are transferred over to equity so should it go under financial? I went with operational, as I believe the
activity is present because of operational needs.
Repayment of
shareholder's loans and share based payments - should these be excluded from
equity and recorded as a liability as they relate to a debt and/or payment of a
debt?? Logic says that this would be
genuine equity as it is a repayment therefore putting the value back into the
equity bucket.
The general
consensus on Goodwill is that this is an operating activities however I am
still of two minds. I can see both sides
- goodwill is generated from the acquisition of another entity as is the reside
difference between purchase price less recognisable assets and liabilities. It is an intangible asset not derived from
operations namely interaction with customers or suppliers. In
saying that, it could be assumed this
asset would be associated (and apportioned over cost generating units) with
everyday operations such as brand names, licences etc – but who decides this? I
keep thinking as it really is nothing for something it therefore feels like a
financial type of transaction which would 'store the value' of the difference
in price after assets/liabilities.
Investment in
associate - this looks to be the distribution of shares in an associate company
being 'iinet'. I had fully decided to
that as this is an investment activity and relating to equity so I was going to
list it in the financial section but then again, this company was acquired and
is used in operations and revenues and expenses would be incurred as such?
In specie
distributions was another area of confusion.
I have decided as it is shares and will be held for use as a “payment in
the same form” being shares then it fits into the financial slot. But again, what if it use as payment in a
deal with suppliers – I have to make an assumption that this then would change
over to operation as it is now in a transaction within the customer/supplier
realm?
Amcom’s original Statement
of Change in Equity was extremely clean and had already separated other
comprehensive income/expenditure (see below), I just needed to find out what it
was and allocate F or O. This therefore
filtered through to the Income Statement so again, nice and clean.
Due to the nature
of this assignment and personal judgement required, I very much hope that these
assignments are compressively marked with in-depth feedback as to the
allocation of financial or operational activity, otherwise I feel probably wont
get much out of this section as I have been quite unsure of some of the
allocations I have made.
Unfortunately my
conversations online or trolling through blogs from this year and last, didn’t
provide any firm answers towards my uncertainties and I assume this was simply
because most students, like me, were unsure.
I absolutely hate (and feel it is a little unfair also) that I will
probably look marks because I have not contributed to many conversations this
assignment piece, nor received any feedback for questions I have posted. Unless I am sure of what I am saying or feel
I have accurate input which I can back up, I will not add meaningless or erroneous
contributions that may contribute to others other students loosing marks. I am more than happy to wear and learn from
my errors but I still have trouble that I could steer others in the wrong
direction.
I also need to
mention that one-liners such as “Goodwill is operational” is completely
unhelpful unless there is some logic or reasoning provided – I would just disregard
this answer as a guess otherwise??!!
Step 3: We
have got to make some decisions
Due to the variation
and combinations available for products and services, I am going to make up a
hypothetical products and service with completely estimated costs, within each
of the following categories.
5 Products and services
Users can securely access data on mobile devices and
tablets such as iPads, iPhone and Android devices
1TB remote server access/month
|
|||||||
This provides data storage requirements and reduces the
need for costly investments.
Server rental 20TB/month.
|
|||||||
This service consolidates, controls and maintains the
licensing and maintenance including renewals and requests for service.
Adobe Professional licence yearly.
|
|||||||
Data and Internet services Network solutions provide
highly reliable, flexible, and easily scalable.
2TB data year contract.
|
|||||||
Supply and install of 50 Cisco integrated phones
|
= $ 4,600 variable cost of goods sold
As Amcom is a service-based
company it has relatively little to no fixed costs. This is completely normal as the vast
majority of costs incurred in the IT industry are predominately fixed. For example the amount of data/access ports
etc needs to be predetermined and contracted out from suppliers, then reviewed
periodically to ensure customer demands are met.
Although the amount
of data/access ports required to be purchased for on-sale will vary, this costs
would still be considered fixed as it would only change after a period ie –
contracts reviewed and locked into place over say a 5 year period. Fixed costs will still vary but not in a
direct with changes in activity levels as would variable costs associated with
purchasing beef patties at a MacDonalds franchise.
The obvious risk
with this situation is one of insufficient utilisation of this ‘inventory’, which
then requires the company to absorb the residual costs of unsold goods, inturn
increasing cost of goods sold. I guess
this is the nature of the beast, possibility of too much or too little.
One of the
variable costs I have identified (hypothetical) was the purchase of 50 Cisco
integrated phones. This would be
considered a variable cost for the business as it is a cost that will vary as a
consequence of activities levels. For
example:
50 x phones
purchased = $30,000 revenue
23 x phones
purchased = $13,800 revenue
Constraints
Possible constraints
Amcom may face could include restrictions on network reception eg positioning
of signal towers and fibre optic cabling infrastructure. The risk of capital outlay required to extend boundaries
of an existing network may out weight the possible revenue.
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