Restating Financial Statements - ASS#2

The Trials and Tribulations 

Step 2

Commentary and discussions with others

Restating the Changes in Equity Statement:

Our first daunting task after reading chapter 4 and applying the inferred knowledge.  I found it difficult to know where to start.  The first thing I noticed from my company’s, Contact Energy, statement was that it was somewhat different to the Ryman’s example.  There were no headings for other comprehensive income, just a total amount.  There were other comprehensive income listed in another statement called the statement of comprehensive income and separate from the income statement was a heading called non-statutory measure: underlying earnings in tax. I had no idea what was a ‘cash flow hedge fund.’ It sounded like some sort of investment you find in superannuation!  This confused me and I posed the following question on Facebook and the Moodle forum and mentioned my concerns in the tutorial:

Hi all, my statement of changes in equity for Contact Energy doesn't show separate headings for "Other comprehensive income after tax", this is shown in the Statement of Comprehensive Income as "change in cash flow hedge reserve." There is also a statement for "Non-statutory measure:underlying earnings after tax." My question is this, what is a hedge reserve, there are no notes & should I include the hedge reserve in the equity or income statement? I am inclined to include it in income, leaving my restated equity unchanged. Any advise?

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The only response was from Facebook and I followed a suggested link from Rebecca, which kind of made sense but I was still undecided how to approach the restated equity statement.  I didn’t get any responses from the Moodle forum, which was somewhat disappointing. I sort further clarity in the tutorial and did some revision of the chapter.  I decided to include the change in cash flow hedge reserve in my restated statement of equity, to show it as operating income. My understanding of a hedge reserve is a sort of like a term deposit to cover things like the purchase of electricity or the change in currency of overseas trading. I believe risk management would be a part of the operating activities. I figured it should be shown in the restated equity as well as income, to emphasise all the capital.  After I had already made some decisions, I realised that the wording of the question must have been just as confusing and that timing matters too.  After discussing this in a study session with Elaine, I felt more comfortable about my approach. I also discussed this with Jess Evans via Facebook which caused me to change it from financial to operating.

Restating the Statement of Financial Position:

Classifying Operational and Financial Activities

The first issue I looked at was the cash account.  I noticed that there was significantly more cash in 2013 than 2012.  So after using the advice given in the chapter, I allocated $25mill (1% $2504 revenues) to the operating activities and the balance $55mill to the financial activities and left the 2012 amount of $5.892mill as all operating activities. In 2011, I also allocated $22mill (1% $2209 revenues) to operating activities and $25 mill to the financial activities. The 2010 figure was all allocated to operating activities.  I also questioned the amount of goodwill, which was consistent over the 4 years.  I found it difficult to decide whether or not it was operating or financial.  I posed the following question on Facebook and Moodle forum and invoked a series of different responses!

So, goodwill guys, I'm unable to decide, operational or financial? It is related to the operating assets, or it is at Contact Energy, where it relates to the purchase of a power station, so I'm inclined to think financial, an intangible cash asset, but could it be operational as it relates to the main operation of making power?

Melody put forward quite a convincing argument that it was financial and I was inclined to agree. After tossing and turning over the idea, I decided that even though goodwill leans towards a financial activity, it seems more likely to be an operating activity as it relates to the value of an operating asset upon purchase.  Goodwill adds value to the company purchased that is used in the operating activities of the firm. Before finally deciding to allocate goodwill to the operating activities of the company, I referred to the footnotes in the annual report. In Contacts case, the amalgamation of Empower Ltd, which generates cash through retail electricity and LPG and the goodwill is allocated to each of these activities. I also referred to the following links for further clarification:

Research links:

 http://smallbusiness.chron.com/increase-goodwill-affect-cashflow-statement-accounting-37224.html

http://www.slideshare.net/ateeqkhan09/cash-flow-statement-n-problems

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I can’t believe I put the deferred tax amount in brackets, making it a negative number and putting out my entire calculation!  I found that using formulas in excel, was another way to double check the figures.  Although, I am constantly aware that even if the figures add up and match, they may not necessarily be the correct figures.  I am even more aware that cut, paste and copy make affect formulas too, which I discovered the hard way! Derivatives of financial instruments, even though I had no idea what they were it sounded financial and I referred to this definition.  Deferred tax I decided was related to the operating activities as tax is paid according to the income made from producing and selling.  Apart from the discrepancies of my own input, this seemed fairly straight forward to complete.

Restating the Income Statement:

Figuring out financial income and expenses was not easy.  Other significant items, net interest expense, asset impairments, provision release, all were not familiar and I did a lot of research to discover there meanings and classifications. I found Facebook and Moodle forum discussions by others most informative.  I felt that I didn’t need to ask as many questions just by reading them.  I soon found that associated earnings was an item I had in common with someone on the Moodle form and answering that question, helped me get an insight to its meaning. This was my response:

I had equity accounted earnings of associates in Contact Energy. The footnotes refer to various dealings with other associated companies. I initially classified this as operating revenue, mainly because it relates to the shared expenses & revenues of purchased similar businesses, ie, other power companies, however one of the companies trades in energy futures. I tossed and turned on the idea that I could apportion that interest held between FI & FE and also to operating expenses.  It was doing my head in! So I decided to go with operating revenue as it mainly adds value due to similar operating activities. Even as I write this I'm thinking maybe it is financial as it is an investment that generates profits, not power. Whatever you decide, write how you justify it in the running commentry.

I also brought up the issue in the tutorial and decided that these were indeed an operating activity as my company uses these associated firms as a backup, so to speak, to supply extra energy should demand require.  After discussions with Jess Evans, I made adjustments to the classification of the cash flow hedge fund, which are also shown in the restated equity.  Overall I learnt a great deal during the restating process.  I had to really look into the footnotes for all items and research answers further to get a better understanding.  Reading the forums and Facebook posts helped enormously, but face to face is by far my favourite.  Elaine showed me a few tricks in linking the numbers from the previous worksheet.  I decided it would be too time consuming to fix all the numbers but I managed to incorporate a few key figures and had a little fun in the working space provided. I also became a little more familiar with some of the terms used.

Identifying 5 products

1.  Contact Energy’s home check up

2.  The installation of “smart meters”

3.  Maintenance

4.  Installation of gas bottles

5.  Installation of “gas meters”

Direct costs:  The cost of salaries, electrical devices, equipment and safety gear.

Indirect costs:  The costs involved with the receipt and allocation of each call out, such as receptionist wages, telephone, online or other communication with the customer and the provision of company vehicles.

Fixed costs:  Electrical monitoring device and other equipment used for testing electrical items.

Variable costs:  The cost of labour per hour, the safety certificate issued, the smart meter and instruction booklet, gas meter, electrical wiring and gas bottles.

Contribution Margin:  The charge of the service provided less variable costs involved for that service.

Example:

The service charge of installing a “smart meter” -    $130

Less

Variable costs:  Labour costs-                  30

                            Smart meter -                 12

                            Instruction booklet -        3

                            Electrical wire-                  2                    $37

Contribution Margin-                                                         $93

Discussion:

I was definitely thrown trying to identify a particular product or service, so I had to ask for advice. I raised the issue at the tutorial and after I listened to Martin’s advice, I was prompted to think outside the box. Still unsure of all the particulars, I also interacted with Facebook and Moodle. There has been much support from others and for this I am truly grateful.  In the end I made up a few figures, I estimated that it would take about ½ hr ($30 @ $60/hr) for a technician to install a ‘smart meter’, a device that measures and transmits electricity consumption remotely back to Contact, which cost about $12, using $2 of electrical wire and giving the customer a $3 instruction booklet and charging the customer $130.  This means that there is $93 to cover direct costs and contribute to profit.  This margin may be different to the installation of gas bottles or meters.  They may require more labour time, different equipment, the gas bottles may cost more and there might be safety issues.  Gas may cost more to produce than electricity.  Gas may require different qualified staff or on-going training of staff for workplace, health and safety reasons.  This might mean the margin may need to higher, to cover costs. 

Identify a resource constraint and a market restraint

There are weather constraints on the hydro and geothermal production of electricity. The carbon emission program is one of the environmental constraints, which is carefully monitored and regulated.  Solar power is becoming popular, influencing supply and demand.  The competition between rival power companies is also an important consideration.

How does this impact the decision of producing and selling the product?

Periods of high and low rainfall, including drought impacts the effectiveness of producing power.  This has led to the purchase of extra power and the management of storage of excess power produced.  Electricity prices have increased to cover production costs due to lack of production and also that production being subjected to the carbon tax. A $2 billion investment plan initialised 5 years prior to 2013, has helped maintain the strength of Contacts market position.  The competition between rival companies has prompted Contact to introduce the “What’s my number” campaign in an attempt to regain customer loyalty. In addition, Contact has offered new customers a fixed price for a fixed term. The annual report emphasises that Contact is committed to the focus of the retainment and attraction of new and existing customers.  I am wondering if the cost of promotion and their community initiatives are factored into costs too.