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BAP62 Importance of AASB 16 Leases in Wesfarmers: Issues in Financial Accounting Assessment Answer

Issues in Financial Accounting

BAP62

Trimester 1 2019 GROUP ASSIGNMENT

Instructions

  • This is a Group Assignment of 3-5 members (or as agreed with your Lecturer)
  • Write each of your Student Names and Numbers at the top of this page IN THE BOX PROVIDED
  • Groups are to choose between a Presentation OR a Creative option and inform the Lecturer on their choice.
  • All groups are to submit their ‘Group Assignment Self and Peer Evaluation’ (attached in Moodle). Marks will only be released once these have been received.

Issues in Financial Accounting:    BAP62

Semester 1 2019:Creative Approach OR Presentation (option to submit an essay if agreed with Lecturer)

1.  Group Presentation due Date and Submission

As per the subject description, a creative attempt or in class group presentation constitutes 10% of the total assessment in this subject. Due date is week 10 or 11 in class time (refer above).

  • Groups will be formed / allocated by week 5.
  • Group theme & company selection (if applicable) will be selected by week 6/7.
  • Group presentation time will be allocated from week 5.

Students are required to complete the assessment in groups of 3-5 and do not have an automatic entitlement to adopt some other arrangements without prior permission from the lecturer.

Each group need to follow the creative / presentation / analysis assessment criteria refer section (9) & (10) and each member of the group needs to participate in the presentation (if that option is selected). PowerPoint slides (six slides in one page) are to be submitted in the presentation time in class before presentation.

If required due disputes between group members, the group will submit a Group Assignment Self and Peer Evaluation – marks will not be allocated until this has been completed and handed into you lecturer.

2.  Objective

BAP62 covers a range of important theory and practice of issues in financial reporting. The main purpose of this assessment is to provide students with the opportunity to consolidate and extend their understanding in connection with the important issues in financial reporting in Australia.

3. Assessment criteria

In assessing the creative/ presentation and analysis consideration will be given to overall neatness, completeness and quality of presentation, timeliness of submission and demonstrated application of appropriate issues in financial reporting. In assessing the presentation the following criteria including marking criteria (section 9 & 10) will be followed.

Clarity 

Presentations are expected to be made in a clear, concise and understandable manner. It is required that an outline be made at the inception of the presentation to show introduction, body and conclusion of the presentation. Presenters’ ability to comply with the outline will be assessed. 

Presentation Tools 

It is required that Slides must be used. Non-compliance will result in a fail grade. Other visual aids are encouraged to be used (i.e. charts, graph etc.).

Duration

Students should comply with the duration requirement as per unit outline. The presentation time should not exceed 10 minutes. Presentation too long or too short will be penalised. 

In assessing the Creative the following criteria will be used:

  • Research Effort
  • Understanding and critical reflection
  • Originality / creativity
  • Effectiveness of Message

The creative effort should be no more than 10-15min duration.

For the detail please refer to attached Rubric’s.

4.  Group Presentation Topic: 

Students need to select a topic of interest as agreed with your lecturer (Sample topics are listed below). 

Each aspect of the recognition, measurement and disclosure criteria from the standards needs to be presented. 

Recent financial statements of a listed company from ASX Top 100 or other may be used to demonstrate the application of presented recognition, measurement and disclosure criteria. 

Proper referencing to the standards and financial report is needed. Company selection (if required) and topic selection should be done in class in week 6.

Example presentation topics:

  1. Difficulties in establishing a global set of standards
  2. Accounting – Recognition of the impacts the profession has on the broader social and political context
  3. Earnings Manipulation – Comment “To educate a person in mind and morals is to educate a menace to society” (President Theodore Roosevelt)
  4. Is Bitcoin an asset
  5. Accounting for intangibles
  6. Limitations of Accounting standards in relation to “externalities”
  7. Fair Value Accounting v Historical Cost
  8. Disclosures and Sustainability - for the greater good or just an illusion of transparency
  9. Accounting for leases
  10. Accounting for employees benefits
  11. Difference between IAS and accounting standards used in country of choice

5. Plagiarism

Taking another person’s ideas, words or inventions and presenting them as your own without acknowledging your sources (citing or referencing), is plagiarism. Paraphrasing or rewording another person’s work, without acknowledging its source, is also plagiarism. If you are identified with plagiarism assessment mark will be zero.

6. Referencing 

Correct referencing is important for two main reasons. The first is to enable the reader to access source material you have relied upon, should they care to. The other is to ensure that you have properly recognized the contribution of the work of others to your assignment. If you do not do this properly, you are engaging in plagiarism—the theft, intentional or otherwise, of the intellectual or creative work of others. 

UBBS will not tolerate plagiarism. It is therefore important that you understand how to avoid it. It is important that you adopt a consistent, and adequate, referencing system. Reference system to be used Harvard Anglia.

7.Groups:

Your group will be required to select a Group Lead who will be the contact person for the group and lecturer. The Group Lead will also submit the Group Assignment on behalf of everyone in the group.

Requirements:  Group Oral Presentations (50 marks reduced to 10 Marks)

From week 5, you will be allocated a group for your Group Presentation. These selected groups will be either self-selected or allocated by lecturer. You will work with the other members and provide a 10 minute presentation in either week 10 or 11 covering your findings and present a conclusion of what went wrong. All members of the group must participate for marking and your presentation scores are individual.

8.Analysis Requirements and Layout:

The PowerPoint presentation (Analysis) is to be in a format acceptable for a professional presentation. The Analysis should include the following sections as a minimum.

1) Introduction (this should state what the purpose of the report is, what Accounting theme is being explored, which company is being reviewed (if applicable), which standards / criteria are being applied etc.)

2) Literature Review (this is where you include a summary of the literature you reviewed to develop your understanding of the topic and formulate your recommendations)

3) Application of Accounting Criteria relevant for theme selected 

4) Analysis (this is the main body and provides your research findings)

5) Summary of Findings (this section highlights the key findings from your analysis)

6) Recommendations (this section summarises YOUR key recommendations and emphasises your JUDGEMENT)

7) Conclusion (this section should reflect upon what you stated in the introduction i.e. what you have done and what you found. The conclusion is about closing the analysis and NOT introducing new material.)

8) Appendices (These are optional and can include any additional findings and materials you believe are relevant)

9) Referencing (Harvard Anglia compliant)

You may find it very useful to make a table using these 9 points as a starting point to review your GROUP’s Analysis. 

You should also use the attached RUBRIC (refer Section 9 and 10) to self-assess how well your Analysis reaches the targeted outcomes.

Answer

Issues in Financial Accounting

Executive Summary  

A lease is an agreement under which a lessor permits the lessee to manage the utilization of an identified plant, equipment and property. It is executed for a specific period of time along with an exchange for an amount. There are various designations of a lease which differ depending upon whether the entity is a lessor or a lessee. A lease can be designated as an operating or finance lease. It is the responsibility of the lessee to clarify whether a lease should be a financial lease. In this context, the International Accounting Standards Board issued IFRS16 Leases in the month of January 2016. It has introduced a new model which require the lessees to identify all the leases on the balance sheet of the company, except the leases pertaining to low valued assets and short term leases. These changes are also introduced by the Australian Accounting Standard Board in the month of February 2016. They are to be implemented for a period beginning on or after 1st January 2019. 

Introduction    

AASB 16 introduces an accounting model of a single lease. It requires the lessee to identify assets and liabilities for all the leases with a time period of more than 12 months. The assets of low value and shorter term lease have been excluded by this accounting standard. This report analyses AASB 16 Leases in the context of Wesfarmers, a company dealing in retail, fertilizers, chemicals, industrial, coal mining and safety products. It is amongst the top 100 ASX listed companies. It also includes a literature review with application and analysis of recognition, measurement and disclosure of lease pertinent to the company. The report also recommends and critically reflects the various aspects of AASB 16.t requires the lessee to analyze the right-of-use asset which represents the right to utilize the underlying asset along with a lease liability which represents the obligation of the lessee to make payments related to it (Deloitte, 2016).

So, this report illustrates the importance of AASB 16 Leases in the context of Wesfarmers, a retail business company dealing in fertilizers, chemicals, industrial, coal mining and safety products. It is amongst the top 100 ASX listed companies (Wesfarmers, n.d.1).It also comprises of a literature review which applies and analysis the recognition, measurement and disclosure aspects of a lease on the company. Lastly, it shall provide certain recommendations along with critically reflecting the various aspects of AASB 16.  

Literature Review

As per the opinion of Joubert, Garvie and Parle ( 2017), there are many purposes of issuing this standard. One of them is that lease has become an important medium to obtain finances and to gain access to the assets. It also helps in reducing the exposure to the risk of owning the assets by the entities. The lessee evaluates the right-to-use assets in a similar way as he measures other non-financial assets like machinery, plant and equipment. He also measures the depreciation on his right-to-use asset along with the interest on the lease liability. 

The lessee also categorizes the cash payment of the liability arising from lease into principle and interest portion. He also represents them in the statement of cash flow by implementing AASB107 Statement of Cash Flows (Deloitte, 2019). It is believed that in the current scenario, leasing has gained importance as the users of financial statements want to have a complete picture of the leasing activities of the entity. The earlier model of lease required lessor and lessee to categorize their leases as operating or financial leases (Xu, Davidson and Cheong, 2017). With the changes in time, companies are using the two type of lease such as capital lease and operating lease to acquire assets and plants in the books of account of company. 

They were required to account for these leases separately. As a result, it was criticized because it failed to meet the necessities of users of financial statements. It did not represent the transactions of a lease in a fair manner (Dakis, 2016)

Particularly, under the previous model, the lessees failed to recognize the assets and liabilities arising due to operating assets. So, the International Accounting Standard Board and Financial Accounting Standard Board jointly developed a new approach to the accounting of lease which required the lessee to identify the assets and liabilities arising due to operating leases.  

In my opinion, it would result in a fair representation of the assets and liabilities of the lessee with enhanced disclosures which shall provide transparency of the financial leverage and capital employed of the lessee.

In Australia, AASB 16 Leases is applicable to the annual reporting periods starting on or after 1st January 2019. As per AASB 16, the assets and liabilities which arise from the lease are measured on the basis of their present value. This measurement comprises of lease payments which are non-cancellable. They also cover inflation-linked payments along with those which are to be made in optional periods, provided that the lessee will certainly exercise the option for the lease extension. In other cases, he shall not exercise the option which will result in lease termination (Holland, 2016).  In terms of recognition, measurement and disclosure under the newly introduced standard, it should be noted that the liabilities related to lease and the right-to-use assets should be recognized for leases where the company is a lessee. Companies should also focus on the specific transition disclosure which is required to be disclosed in the annual statements as perAASB16. It may also disclose that it has grandfathered or continue to apply its previous assessment pertaining to if the arrangement was a lease as per the earlier standard (Petschler, 2018). This has shown that company has more capital lease in its books of account and followed capital lease rules and regulations. 

Application of AASB 16 on Wesfarmers 

Although AASB 16 was not effective until the time period commencing on or after 1st January 2019 but many companies have started implementing the leasing provisions. Coles, a subsidiary of Wesfarmers has adopted appropriate management practices and leasing structures to safeguard the tenure of its current stores dealing in food and liquor. It has also disclosed that in the mining sector, the leases are to be granted over MDL 162 area which is adjacent to Curragh. The approvals from Common Wealth are being awaited in this regard (Wesfarmers, n.d.2). 

In 2016, operating lease payments were recognized as an expense in the income statements. They were measured on a straight line basis over their lease term. The operating lease incentives were recognized as a liability when they would be received. They shall be shown in the income statement on the basis of the straight-line method over their total lease term. In 2016, the minimum lease payments amounted to $2,330 Million as compared to $2,068 Million in 2015.  In 2017, the minimum lease expenses amounted to $2,339 Million and $2, 2281 in the year 2018 (Wesfarmers, n.d.3). All the operating lease expense were recognized as expenses in the income statements. They were calculated on a straight line basis over the term of the lease (Wesfarmers, n.d.4).

Analysis

So, it has been analyzed that there would be significant effects on all the entities implementing AASB 16.  For lessees, the balance sheet would be expanded through the recognition of the newly introduced assets and liabilities. 

In the income statements, the profile of lease expenses would be front-loaded particularly for the individual lease. It would be presented as depreciation and interest instead of as an operating expense. In the context of Wesfarmers, the operating expenditures relating to lease would be described as depreciation and interest with the exception of variable rentals which would be expensed as incurred. It implies that various key performance indicators of Wesfarmers would be impacted.  In the context of Earnings before interest, tax, depreciation and amortization (EBITDA), the statement of cash flows would be affected. The payments would be split between repayments of interest as well as principal ( KPMG, 2019)

Thus, Wesfarmers is being advised to consider these effects in the areas pertaining to Key Performance Indicators (KPI), contingent considerations in combinations relating to business, bonus target and executive remuneration schemes and taxation as well. The users of financial statements of the company have to consider the aspects related to debt covenants and the ability of the company to pay dividends as per the newly introduced standard. The company is also required to fulfill the regulatory capital requirements.  In order to avoid unfavorable situations in the future, the company has to renegotiate the contractual arrangements along with those which are now in transition to AASB16. The effects of the newly introduced standard should be prudently considered in this regard.  

Summary of Findings

The biggest advantage of the implementation of AASB 16 would be that both finance and the operating lease would be recognized on the balance sheet. It would certainly impact the assets turnover of Wesfarmers along with affecting its interest cover, net income, operating profit, cash flows and various other financial ratios (BDO, 2019).Yet many of the companies do argue that implementation of AASB 16 shall be an enormous, tedious and complicated task. Most of them have already appointed project managers who would ensure that the financial metrics and reports are not being adversely impacted by AASB16. They would make sure that the companies are strong enough in terms of lease portfolio performance. Another impact of AASB 16 is that the definition of a lease agreement is being transformed along with the description of a service agreement.  

It implies that some of the agreements which currently pertain to services would become leases and vice versa. So, Wesfarmers should fully evaluate its agreements in order to ensure transparent and fair reporting of leases in its financial statements. The intention of AASB 16 is not to discourage business from utilizing leases but rather to ensure that their method of accounting should be done in the most transparent and fairway. Moreover, when a company has executed a lease agreement which is in its transition period, then numerous reliefs have been provided to the lessees. It is in the case when their accounting has been impacted in the most significant manner (AASB Standard, 2016). Both the lessors and lessees are capable of grandfathering their earlier conclusions. But this option has been provided for all the contracts or none of them. It does not imply that an item which was previously recognized as operating lease can remain off-balance sheet for lessees. It saves the cost and efforts required for reevaluating the entire contract which existed on the date of transition as against the new definition of a lease.  

Recommendations

Hence it has been recommended to Wesfarmers that the challenges of preparing for AASB 16 cannot be underestimated. Separate project teams should be established and timelines should be prepared for transitions in the near future. The companies should also focus upon gathering of data, the establishment of systems along with evaluating and communicating the impacts of AASB16. They must also thoroughly consider the availability of transition reliefs resulting from the implementation of AASB16. 

The objective of AASB 16 is to make sure that lessors and lessees provide appropriate data which completely represents the transactions of a lease in their financial statements. So, the companies are recommended not to consider its implementation a tedious and cumbersome task (Sacarin, 2017)

Its sole intention is to bring transparency and fairness in the accounting of leases. While implementing AASB 16, the companies are thereby recommended to consider all the facts and circumstances of the lease transactions. They should evaluate the terms and conditions of the contract.

AASB 16 is to consistently apply to all the contracts bearing similar characteristics and situations. It would be applied to a portfolio of leases bearing similar characteristics. The companies are therefore recommended to evaluate that the impact on the financial statements of the portfolio does not differ while implementing AASB 16 to the individual leases in that portfolio (Öztürk and Serçemeli, 2016).

Conclusion

Hence to conclude, it can be said that AASB 16 has been implemented for bringing transparency and fairness in the accounting for lease transactions. It would certainly create an impact on gearing and loan covenants of the company. It would also affect the communications with the shareholders and key ratios of the company along with affecting its remuneration schemes comprising of bonus and share-based payments. Thus AASB 16 has a far-reaching commercial implication so that the implementation of lease becomes a part of the integrated program of introducing changes in the financial reporting. It helps in strengthen the true and fair view of the recorded books of account of company. 

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