Accounting Theories: Understanding Inflated Financial Result of Amazon
This report encompasses the issue of the inflation of the value of the shares of the Amazon which is an issue for the analysts and investors alike. This model uses the current financial reporting standards and the company finical activities to find out the reason why the convention model of cash flow analysis provides inflated results for the financial status. This uses the various available data about the company’s revenue growth and other financial information to understand that cause behind the inflated value completely and make a recommendation on how to get a more accurate analysis. The theories of accounting have been explored to develop the understanding of the various factors that affect the misevaluation and provide the solutions for the issues.
There exist ample factors that can affect or influence the share price of the firm It has been observed that the rise as well as fall within the share price and their movements will have to be specific enough to ascertain the feelings of the investors. The overall performance of the company has generated the valuation and techniques to maintain valuation deemed upon the overall aspects of operations. The resemblance prevailed for the influence of the share price has generated from a different code of ethics and also different conceptual framework for the firm. The code of ethics has represented the valuation of the overall profit and loss statement of the firm accompanying the figures and thus the release of this earnings and profitability will accompany the judgment of earnings achieved in the future period. In these consequences, the share price of the firm will be increased by denoting important facts that can successfully empowered through making higher pricing strategy successfully. On the other hand, the announcements considering the dividends will be deemed as the important factors to rise in the share price. This will reflect the aspects of inheriting more number of shareholders for the firm as the shareholders will receive more dividends from the overall profitability achieved by the firm accompanying the business operation.
Issues affecting share price
In some case when the firm has undergone a loss in acquiring profit then the share price will be decreased and the firm will face a huge loss in sustaining the business operations. On the other hand, the stock or the share price of the firm may be increased due to the industry performance made upon the through productivity of the economic returns by utilizing the conceptual framework. This will justify the progress successfully and the market conditions prevailed in which the operational activities of the competitors are indentified that can lead to evaluate the overall functions carrying out upon total perspectives to maintain the efficiency. The systematic perception will be evident on the decisions made in order to maintain the preview considering the enactment within the firm in stabilizing the interest for finding out better movement of the share price. On the other hand some ethical codes regulating the sentiment of the investors has justified the influence and it has revealed about the confidence that can easily cause the market for growing up and also down significantly. Thus, will generally direct the share price and will entail the perception of increasing the share price. Nevertheless, the bull market, which is also signified as a strong market has maintained the economic recovery in order to enhance the price of the shares. However, eventually the optimism of the investors will redirect about the conditions of the share price to determine the values inheriting overall opportunities to judge the overall motivations successfully. The shera market has been considered as weak market and thus the stock price will be falling as the overall confidence within the investor is gradually fading due to the occurrence of recession within the market.
The generally accepted accounting principles that govern the financial statements of the companies to the stockholders are maintained in Amazon but only the AWS in the cloud services division conform to the best practices in regards to the transparency. The other factor that is the main reason for this contention is the above-mentioned capital lease agreements that are presented as the investment in servers and other necessary frameworks that impact two main indicators of the company’s financial conditions (Jain, Madan & Singh, 2016). The free cash flow and return on invested capital are the main drivers of the investments decisions of the shareholders and both of these are increased because of the use of the capital lease agreements. However, the factor of the replacement of this equipment which are responsible for the growth of the company are ignored in the statements and this is a matter of concern as the standard lease agreements span 30 months which is very short time.
According to “Lee’s cash flow model”, the cash flow statement of the company should include both the cash and the cash equivalents. This includes the cash flows from the current assets which are used in these circumstances by the Amazon for evaluating their business potential. This factor that puts the share valuation of the Amazon in questions is the US GAAP (generally accepted accounting practices) that fails to define funds properly. While both of the cash and cash equivalents are included in the calculation of the profitability through the cash flow, this does not include for the various leases and the expenses which affect the future liquidity of the company into the statement (Gordon et al., 2017).
The operating principle seems to increase the market share through leased assets that are necessary for the operations of the company and at the same time ignoring the profit margin for gaining market share (Warren and Jones, 2018). Thus, the fact that the company does not actually own the resources that the company uses for their operations and the end to the lease would affect the company’s ability to operate and remain profitable is not considered in the GAAP rules. Adhering to the rules of the accounting and the principles, therefore, are not enough if the company intentionally tries to mislead the investors which are proven in the case of Amazon although no negative impact of the same has yet been seen in the stock prices for the company (Ritala, Golnam and Wegmann, 2014).
According to the cost principle theory, the Amazon is also breaching the standards as the leases of the various assets that the company in question does not own have contributed fundamentally in the rapid growth of the company revenue. Thus, the impact of the same is seen in the cash flow statement of the Amazon and the accounting standards used to define the company’s future profitability (Vernimmen et al., 2014). The short term lease of the assets that are essential to the efficiency that is the main value driver for the Amazon is making the company represent the future growth potential that might be based on the continuation of the same policy in the operations which the company is essentially dependent on the leased assets that can affect the future profitability to a huge degree. Thus, the risk is minimised in this case through the lens of huge growth. The Amazon, therefore, is sacrificing higher profitability for the market domination that has to change at some point in the future where the company would not depend on leading for the operations and profitability (Jain, Madan & Singh, 2016).
The materiality theory is also applicable for this case where the company is relying more and more on the accounts payable for the financing oft eh growth of the operations which is resulting in the phenomenal growth affecting the share prices. On the other hand, the categorising principle of the leases into operating, financial and capital is used to put a material value on the assets that are not owned by the company. The Amazon as seen above lists the leased facilities into capital which is seen as debts but the intrinsic role these assets play in the operations are not included in the disclosure requirements which is making the company avoid listing the role of the same into the common valuation metrics used on the operations (Marti and Scherer, 2016). The foray into the activities by the Securities and Exchange Commission for the US operations of the company shows that the use of these leases to manage their services has been compounded in to 67% annual growth. This not only is cause for concern but also deceptive for the investors making the decisions based on cash flow alone. The property plant and equipment (PP&E) made by the Amazon are separate form these investments which are the assets that the company actually own which makes this look like normal debt while the role of the short term assets has a huge role in the infrastructure of the company. The necessity of the company to replace these infrastructure investments is not included in the assumption which is a necessary to retain the current growth rate in cash flow and revenue (Becker, 2017).
This is bound to be revealed in the coming months as the financial standards accounting board has changed the rules regarding the GAAP that would come into effect in the December and thus impact the financial standing of the Amazon in the eyes of the investors. This would potentially hit the stock market appraisals of the Amazon hard in the next year’s financial report.
CEO Jeff Bezos justification
According to the statement made by the Amazon CEO in 2016, the company provides a break down for the funds used by the company in its lease financing activities in their annual reports of the company as required by the GAAP and the information that is presented for the benefit of the shareholder (Amazon, 2017). The absence of the same level of transparency in the quarterly reports were circumvented by stating that requirements of the report do not clarify the level of disclosure as per the standards and the Amazon share prices should be evaluated in a way that includes provision of there the company policy that makes the standard metrics inapplicable for the company. While this does not essentially answer the query, this indirectly blames the analysis process used for assessment of the company future potential for the analysts.
The recommendations for the analysis would be not to use the free cash flow for gauging the company performance and future potential as this process would not account for the financial disclosure policy and provide incomplete information about the status of the company. This is moot in the context as each company is unique in the way they present the financial activities of the company and the GAAP is only a loose guideline defining the responsibilities that do not in any way take responsibility for the analysis of the financial operations of the company and use it as a basis for making investments (Jain, Madan & Singh, 2016). Thus, the responsibility of disseminating the information presented in the right way belongs to the financial analysts and as the company reveals their financial activities in acceptable detail set by the FASB.
Thus, it would be prudent to take in all of the cash rents pays into the cash flow analysis through the DCF model of evaluating stocks. Otherwise, the calculations are bound to be off by a huge margin. The added value of the company facilities like the prime and the company expenses in delivering the product that needs to consider instead of the cost of sales to gain an understanding of the actual position of the company (Zhu and Liu, 2016). Thus, it is essential that the Amazon stocks are not evaluated based on the standard evaluation metrics as this is bound to be misleading. While the information presented by the Amazon regarding the lease activities are in adequate they can sufficiently help get a general idea of the financial position of the company. This is short term worry as the new NASB standards are enforced the information available would increase allow for a further accurate assessment.
The Amazon is a business that is one of largest retail chains in the world and has their operations result in rich share prices with steady growth over the last decade. The release of the stock price on February shows the net income to be $3.85/share that was at an unprecedented high than the estimates of $1.85/share. While the process of the showing of the accountings in the revenue growth that is at 38.2%, the general assumptions of the decreased profitability for the company is based on the fact that while being transparent, the company manipulates their cash flow statements under legal boundaries to make the company present a better growth and earning potential (Amazon , 2017). The revenue growth of the company is significant as seen from the 30% growth in 2017, which is showing a growth of about 8%, this is not true for the earning potential as the company financial statements policy of the presenting the capital lease investments are the main cause of the inflated share price as the company policy while not being directly illegal, can be seen as misleading practice as the company is not focusing on the profitability at this point of their strategy (Amazon, 2017).
The financial analysis explains how the repayments for the cash rent for the infrastructure and the new investment being made by the company to replace the same are being excluded from the ash flow statement which is limited to the operating activity of the company. Thus, the working capital cash flows are unable to define the entirety of the financial activity of the company Amazon in the financial reports and thus inflating the company growth potential by as much as10%. The company also uses the higher potential income as leverage in attracting contracts and talents which was also an important factor in the increased operation success of the company and contributing to the growth as much as the leased assets (Ritala, Golnam and Wegmann, 2014).
Thus, the Amazon borrows and needs to continue to do so for the uninterrupted operations of the company. All of the major segments of the Amazon, therefore, present a negative profitability for the company and the finance of the growth of the company without accessing the public funding. The capital lease agreements are listed under other long-term liabilities in their financial reporting which is clearly a way for the company to show a positive representation of the performance without causing worry for long term planners about the possible future issues to be faced in this course of action. Another discrepancy is the difference between the cost of sales presented and the cost of fulfilment which is a more accurate accounting of the expenses of the company for each dollar in revenue (Solberg and Karlsen, 2018). The cost of fulfilment includes the delivery of the goods to the doorsteps of the customer which makes use of the company’s investment in logistics and transport infrastructure without directly showing the impact on the financial statement or in the cost of sales.
It is clear form the above analysis of the financial accounting of the Amazon that the company operated based on an unconventional model focusing on expansion and growth which makes the evaluation of the company shares impossible by conventional models (Krishnapuram and Mondal, 2017). The company evaluations need to be based on the various company policies is that might inflate some of the indicators normally used for analysis of the financial condition. While the new standards by NASB would address the issue to some degree the perspective of the analysis needs to be changed to properly value the shares of the company. This report provides the guidelines to conduct such an activity based on the information available. This would include the unique nature of the operations and make changes for them and help understand the actual value instead of the inflated ones projected by the conventional models of analysis.