Assignment Stage 2 (ASS#2) Restated Financial Statements

Name: Taylor Franklin - https://taylorfranklinblog.wordpress.com/

Due Date: 11:00am Monday 9th May, 2016

Company: RCR Tomlinson

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Table of Contents

Content Page NumberStep 1 3Step 2 13Step 3Section 3.1Section 3.2Section 3.3Section 3.4

1314141516

Step 4 16Appendix 18

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Step 1Below is my ideas, reflections and reactions to reading ‘Chapter 4 – Analysing Financial Statements’ of the study guide. The words in bold text feature definitions in the appendix of this assignment.

Chapter 4 – Analysing Financial Statements

I really like this quote and it is also very true!: “Whoever wishes to foresee the future must consult the past” – Machiavelli. I found that this quote also has a lot of reference to this chapter.Having a structure to view how a firm adds value to its equity investors, can help create an understanding of the firm’s economic and business realities.

4.1: How firms add value Equity investors only receive dividends from a firm, but when a firm pays them a dividend this doesn’t add value. This is because dividends are merely a transfer of value between a firm and its equity investors. In order to understand the value of equity in a firm, engagement is required with the economic and business realities of a firm that drive the creation of value.

Free cash flow

Focusing on cash flow may feature problems because it is NOT a measure of the creation of value. I understand that cash flow from operations (C) and net cash invested into a firm’s operating assets (I) are the two factors that drive free cash flow. The rule is that the more a firm invests into its assets, the less free cash flow and the less value of a firm under a discounted cash flow (DCF) approach.

Economic profit

One way earnings of a business can be measured is through the return on net operating assets (RNOA)As an equation this could be expressed as:

RNOA after tax operating income / by the net operating assets (NOA) invested.

A firm adds value by taking capital from investors and using it to earn a return greater than the cost of that capital. Dividends, cash flow and economic profit are all interrelated. The value of equity, is the present value of expected future dividends. However, by looking at economic profit rather than dividends, there are a number of advantages which are as follows:

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- There is no need to be concerned that the value will be affected by its dividend policy or the amount of operating cash flow and instead.

4.2: Operating and financial activities

Operating and financial activities

Operating activities and financial activities are the types of activities in a firm and in order to understand these, they need to be separated in financial statements.

A conceptual view of a firm

Figure 4-1 below demonstrates how to separate operating and financial activities. The operating activities are shown in the left-hand side and the financial activities are shown in the right-hand side. Net operating assets (NOA) are used to acquire inputs for a firm’s operations, from suppliers in the input markets and sustain operating expenses (OE). The difference between operating revenue (OR) and operating expenses (OE) is operating income (OI). Net financial assets (NFA) involve interactions by a firm with the debt and equity capital markets. These interactions involve net cash flow with equity investors (d) (Such as dividend payments, share issues and share buybacks) and net cash flow with debt investors (F) (Such as net interest payments and the repayment and issue of debt).

Figure 4-1: View of a firm: Operating and Financial Activities

Statement of changes in equity

As described in the previous chapter, the statement of changes in equity shows how a firm’s income statement and balance sheets inter-connect with each other. The bottom-line of a firm’s income statement is net profit after tax.

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The bottom line of a firm’s balance sheet is the value of equity. This can be expressed as an equation:

value of equity + the earnings for a period = the value of equity, after allowing for any cash flows between a firm and its equity investors

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Table 4-3: Ryman Healthcare statement of changes in equity for year ended 31st

March, 2015

Description:

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Table 4-3 below shows the statement of annual changes in equity for Ryman Healthcare ending 31st March, 2015. There are columns for 2015 and also for the previous year, 2014.

Table 4-4: Ryman Healthcare RESTATED statement of changes in equity

4.3: Restate two key financial statements

Balance sheet

A balance sheet normally shows all the operating and financial assets of a firm categorised as either current or non-current assets. Also, all the operating and financial liabilities of a firm as either current or non-current liabilities. The purpose in restating the balance sheet is to clearly separate operating and financial assets and liabilities and to identify net operating assets (NOA) and net financial assets (NFA) (a.k.a. net financial obligations (NFO). The author finds that the best way to separate a firm’s operating and financial assets and liabilities is to print out a firm’s balance sheet and put an ‘O’ (for operating) or an ‘F’ (for financial) next to each asset and liability in the balance sheet. One of the more difficult items in a balance sheet to restate is cash. It is impossible to match its cash outflows with its cash inflows. In the case of cash registers and an overdraft facility with a bank, a firm’s cash would be an operating item.

Table 4-5: Ryman Healthcare Balance Sheet as at 31st March, 2015

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Table 4-6: Ryman Healthcare RESTATED Balance Sheet as at 31 March

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Figure 4-2: Ryman Healthcare’s Consolidated Balance Sheet as at 31 March 2015

Income statement

The purpose in restating the income statement (or statement of financial performance) is to clearly separate operating and financial revenue and expenses, and to clearly identify comprehensive operating income after tax (OI) and also net financial expenses after tax (NFE) (or, alternatively, net financial income after tax, NFI). To restate a firm’s income statement I would need to first go through each item of revenue and expenses and allocate them between operating and financial activities, by using the same process as balance sheets. In order to separate a firm’s operating and financial activities, the tax needs to be allocated to a firm’s operating and financial activities. This can be done by calculating how much tax the firm would have paid on its operating activities if it had no financial assets or liabilities and to then make a corresponding adjustment to the net financial expenses and/or income. Calculating the tax benefit of its financial activities can be done by:

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Tax benefit = Net interest expense × tax rate of the firm

When calculating the tax benefit for a firm, I need to use the corporate tax rate of the country where my firm is based, which can change from year to year.

Table 4-7: Ryman Healthcare Income Statement for the year ended 31 March

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Table 4-8 Ryman Healthcare RESTATED Income Statement for the year ended 31 March

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Figure 4-3: Ryman Healthcare’s Consolidated Income Statement for the year ended 31 March 2015

4.4 Profitability and efficiency

Breaking things into bits

A firms financial statements should be broken down. Starting with economic profit:

Economic profit = (RNOA – cost of capital) × NOA

Where RNOA = OI/NOA.

Firstly RNOA needs to be broken up into a ratio that focuses on profitability and another ratio that focuses on efficiency as follows:

RNOA = PM x ATO

PM = OI/Sales

ATO = Sales/NOA

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Accounting drivers

How to calculate return on net operating assets (RNOA)?Return on net operating assets (RNOA) is a ratio that expresses the relationship between two numbers in a firm’s financial statements. It is the relationship between operating income (OI) and net operating assets (NOA), namely RNOA = OI/NOA. Operating income (OI) is the comprehensive operating income after tax.

NOA = (opening NOA + closing NOA)/2

RNOA = OI/NOA

Profitability

The profit margin focuses attention on the profitability of each dollar of sales. This can be calculated by:

We define profit margin (PM) as:

PM = OI/Sales

Where OI = comprehensive operating income after tax

Efficiency

Efficiency is measured as the relationship between assets and turnover, called asset turnover (ATO) which can be defined as:

ATO = Sales/NOA

Where NOA = net operating assets

Alternatively, ATO can be looked at as its inverse:

1/ATO = NOA/Sales

The inverse of ATO is the amount of net operating assets NOA needed to be put in place in the business to generate each dollar of sales. Return on net operating assets (RNOA) is driven by the interaction between profit margins (PM) and asset turnover (ATO):

RNOA = PM × ATO

Step 2The restated financial statements are included in a separate excel file.

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Section 3.1 – Identify three products/services

RCR Tomlinson’s can be broken up into three sections of RCR Energy, RCR Infrastructure and RCR Resources. Within these categories are subcategories of specific products and services that this firm provides. One product/service has been picked from each category:

RCR Energy: Thermal Oil Heaters

RCR provides thermal oil heaters for commercial and industrial heating applications. Our range covers package thermal oil heaters, including gas and oil-fired in typical DIN (EN) coil-type and API designs. In addition RCR has substantial experience in wood & coal-fired thermal oil heaters.

Thermal oil as a heat transfer medium offers advantages over steam and hot water in that it can be heated at low pressures to temperatures in excess of 300 °C. This has made it a popular medium for process heating in wood, panel board, textiles, marine, chemicals, and food processing industries.

Intec Wood & Coal Fired Thermal Oil Heaters

In combination with our technology partner, Intec Engineering GmbH, RCR Energy Systems offers Thermal Oil Heaters designed to operate on a range of solid fuels.

RCR's wood-fired thermal oil heaters typically incorporate a water-cooled vibrating grate and automatic de-ashing systems for firing high moisture biomass with minimal wear and operator intervention.

Key Features:

Output range: 7MW to 25MW Custom designed operating pressure range Medium temperature range up to 320°C Coals, biomass fire fuels

RCR Infrastructure: High Voltage Specialist Services

RCR Power offer specialist High Voltage (HV) Testing and Termination Services, operating in both surface and underground environments.

RCR has personnel qualified and experienced in the splicing and terminating of all cable types, with capabilities of up to 66kV using state of the art testing equipment.

RCR Resources: Heat Treatment

With sites in Western Australia, Victoria, Queensland and New South Wales, RCR provides heat treatment call out services throughout Australia 24 hours a day, 7 days a week. 

RCR’s heat treatment operation at Welshpool in Perth, Western Australia, has one of the most comprehensively equipped facilities in the Southern Hemisphere, housing the largest permanent stress relieving furnace in Australia.

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Our facilities operate 24 hours a day conducting stress relieving, normalising, annealing, carburising, refractory, induction hardening and NATA accredited materials testing. Ongoing call out services is also provided for various fabrication shops and companies.

Section 3.2 – Selling Price, Variable Cost and Contribution Margin

Estimated Selling Price of Thermal Oil Heater: $400

Estimated Selling Price of High Voltage Specialist: $10,000

Estimated Selling Price of Heat Treatment: $7,000

Estimated Variable Cost of Thermal Oil Heater: $300

Estimated Variable Cost of High Voltage Specialist: $9,000

Estimated Variable Cost of Heat Treatment: $5,000

Contribution Margin Formula = Sales – Variable Costs

Contribution Margin of Thermal Oil Heater: $400 - $300 = $100

Contribution Margin of High Voltage Specialist: $10,000 - $9,000 = $1,000

Contribution Margin of Heat Treatment: $7,000 - $5,000 = $2,000

Section 3.3 – Reasons for Differences in Contribution Margin

The reason as to why there are differences in the contribution margin for the three products and services is because of the numerous services involved in each product and service, the cost of testing, the cost of travelling to all locations and because of the cost of the materials used in each service and product.

Why might this firm produce a range of products/services with different contribution margins? Why not only produce the product/service with the highest contribution margin?

It is best for a firm to have a range of products/services in different markets with different target markets to reduce the effects of fluctuations in the economy. If not all the product and services are in one particular market, the firm would not be as affected since its input is spread out over a range of markets. As one market decreases another will increase and this concept is constantly changing between all markets.

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Section 3.4 – Constraints

RCR Energy is a technology leader in power generation and energy plants. Utilising advanced technologies for a range of conventional, combined cycle and renewable generation solutions, RCR delivers power stations and steam generation plants through turnkey engineering, procurement and construction (“EPC”) projects for energy projects across a diverse range of industries including infrastructure, oil & gas and mining. In relation to constraints, this category of RCR Tomlinson would have limitations of environmental factors such as carbon and energy emissions and the many regulations of mining. Employee safety would also be a constraint since they would be exposed to a number of dangerous fumes and materials.

RCR Infrastructure is a leading provider of electrical, rail, communications, water solutions, HVAC (heating, ventilation and air conditioning), fire protection and property services and products in the Asia-Pacific region. The division incorporates RCR’s Power business, with services including all aspects of electrical instrumentation projects, from design and construction to installation. Constraints in this category would also be safety as electrical services and fire protection can be dangerous. Other limitations would be regulations for new rail and other transportation services in relation to the location of these services.

RCR Resources is a leading provider of specialist structural, construction and maintenance services to the resources, oil and gas and LNG industries. RCR Resources offers specialised site teams of skilled and experienced personnel to perform all forms of structural, mechanical and piping installation, construction, plant shutdown repair, refurbishment and planned maintenance functions. This is complemented by a comprehensive range of specialist services in valve overhaul and orbital specialised welding, and shutdown, repair, refurbishment and maintenance of draglines and shovels to fixed plant and materials handling equipment. Just as with RCR infrastructure and energy, safety would be a constraint in this category because the employees would be exposed to dangerous chemicals and fumes in plants.

The huge benefit with RCR Tomlinson’s choice of products and services is that there will always be a demand and need for them especially in mining and construction.

Step 4

Appendix

DefinitionsEquity investment: Refers to the money that is invested in a firm by its owners of common stock.Equity interest: Is the amount of equity a single person holds in a business.Free cash flow (FCF) is a transfer of value within a firm, commonly between a firm’s operating activities and financial activities, which are described throughout. The amount of free cash flow a firm generates will be affected by a firm’s decisions relating to the

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amount of investment into its operating assets (I) annually. Free cash flow could be easily increased in any year by reducing net investment.return on net operating assets (RNOA), which is a measure of a company’s financial performance that takes assets into account. Ultimately, higher RNOA means that the company is using its assets and using capital efficiently and effectively. It can be expressed as the relationship between operating income and net operating assets. However, I think it would be easier to remember RNOA as the return on capital invested in the business. Efficiency is how well net operating assets (NOA) in a business are being used to generate sales or turnover (turnover is another word for sales).Asset turnover (ATO): is the amount of sales generated by each dollar of net operating assets (NOA) in the business. It is the ability of net operating assets NOA in the business to generate sales.Equity investors: are people who invest money into a company in exchange for a share of ownership in the company. Typically, equity investors have no guarantee of a return on their investment, and may lose their money should the company go out of business.Discounted cash flow (DCF): Value of the anticipated revenue stream from an investment as at today or on any given date. Because money can grow by itself a dollar received today is less valuable than a dollar received in the future. This quality makes choosing among investment opportunities a convoluted process. Therefore, DCF techniques are applied to 'bring-back' (discount) the anticipated returns to a common ground their present value (PV). Economic profit: The difference between a company's income and economic costs.Cash Flow: In accounting, cash flow is the difference in amount of cash available at the beginning of a period (opening balance) and the amount at the end of that period (closing balance). It is called positive if the closing balance is higher than the opening balance, otherwise called negative. Cash flow is increased by selling more goods or services, selling an asset, reducing costs, increasing the selling price, collecting faster, paying slower, bringing in more equity, or taking a loan. Dividends: A transfer of value between a firm and its equity investors. They are a share of the after-tax profit of a company, distributed to its shareholders according to the number and class of shares held by themOperating activities: An activity that directly affects an organization's cash inflows and outflows, and determine its net income. Cash inflows result from sales of goods or services, sale of shares, and from income earned on investments. Cash outflows result from equipment and inventory purchases, interest and principal payments on loans, salaries, dividends, and various other costs and expenses.Financial activities: Any transactions or initiatives undertaken by a business to further the fulfillment of economic goals. Financial activities may include buying and selling of products or assets, organizing and maintaining accounts, issuing stocks or bonds, arranging loans, or other business activities with specific monetary objectives.Net operating assets (NOA): Business operating assets minus business liabilities. Calculation of net operating assets requires the removal of financing activities from the operating assets, to get an accurate picture of the company's value.Operating expenses (OE): An expense incurred in carrying out an organization's day-to-day activities, but not directly associated with production. Operating expenses include such things as payroll, sales commissions, employee benefits and pension

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contributions, transportation and travel, amortization and depreciation, rent, repairs, and taxes. These expenses are usually subdivided into selling expenses and administrative and general expenses.Net financial assets (NFA): An expense incurred in carrying out an organization's day-to-day activities, but not directly associated with production. Operating expenses include such things as payroll, sales commissions, employee benefits and pension contributions, transportation and travel, amortization and depreciation, rent, repairs, and taxes. These expenses are usually subdivided into selling expenses and administrative and general expenses.Asset: Something that an entity has acquired or purchased, and that has money value (its cost, book value, market value, or residual value). An asset can be something physical, such as cash, machinery, inventory, land and building, an enforceable claim against others, such as accounts receivable, right, such as copyright, patent, trademark, or an assumption, such as goodwill. Assets shown on their owner's balance sheet are usually classified according to the ease with which they can be converted into cash.Liability: Accounts and wages payable, accrued rent and taxes, trade debt, and short and long-term loans. Owners' equity is also termed a liability because it is an obligation of the company to its owners. Liabilities are entered on the right-hand of the page in a double-entry bookkeeping system.Efficiency: is how well net operating assets (NOA) in a business are being used to generate sales or turnover (turnover is another word for sales). It is measured as the relationship between assets and turnover, called (unimaginatively) asset turnover (ATO).

Equation Factors (Alphabetical Order):

(C) cash flow from operations

(D) net cash flow with equity investors

(DCF) discounted cash flow

(F) net cash flow with debt investors

(FCF) Free cash flow

NOA net operating assets

(NFA) net financial assets

(I) operating assets

(OE) operating expenses

(OI) operating income

(OR) operating revenue

(RNOA) return on net operating assets

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Reference List

http://www.businessdictionary.com/

RCR Tomlinson, 2016, RCR Infrastructure, viewed 26/4/16 <http://www.rcrtom.com.au/index.php/our-business/infrastructure>

RCR Tomlinson, 2016, RCR Energy, viewed 26/4/16 <http://www.rcrtom.com.au/index.php/our-business/energy>

RCR Tomlinson, 2016, RCR Resources, viewed 26/4/16 <http://www.rcrtom.com.au/index.php/our-business/resources>

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