Comprehension questions

1.1       What is a business transaction and how does it relate to the accounting process? Illustrate the concept of a business transaction with five examples relating to an SME such as a provider of naturopathic services.

A business transaction can be defined as external exchanges of resources between the entity and another entity or individual that affects the assets, liabilities and owners’ equity items in an  entity.  The  accounting  process  is  the  identifying,  measuring  and  communicating  of economic information about an entity to a variety of users for decision-making purposes. The first component of the process is the identification of business transactions which are then measured and communicated to the different users of financial reports.

Business transactions for a provider of naturopathic services include the following.

1. The contribution of capital by the owner to commence the business. This transaction would increase cash (asset) and increase capital (equity).

2. The purchase of equipment (stethoscope, cupping jars) on credit. This transaction would increase equipment (asset) and increase creditor (liability).

3. The payment of building rent. This transaction would decrease cash (asset) and decrease profit (equity).

4.  The purchase  of office  equipment  for  cash.  This  transaction  would  increase  office equipment (asset) and decrease cash (asset).

5. Withdrawal of business funds by owner. This transaction would decrease cash (asset) and increase drawings/decrease capital (equity).

1.2       Differentiate between financial and management accounting. Provide an example of how a management accounting report would be incorporated into financial accounting reports.

In differentiating between financial accounting and management accounting, it is important to consider the users of financial information — both internal and external users. Financial accountants  prepare  and  report  information  for  external  users  (for  example  prospective investors  or  the  tax  office)  and  as   such  are   subjected  to  regulation   from  GAAP,  the Corporations Act  and  in  some  cases  the  ASX  through  their  Listing  Rules.  Management accountants are concerned with the effective use of an entity’s resources, and in so doing assist the manager/s (i.e. internal users) of the entity in achieving their goal of enhancing customer and shareholder value. Therefore, the management reports generated need to be up-to-date to be effective. Regulation in management accounting is much less formal and in some areas rules are  basically   non-existent.  Ultimately,  there  will  be  interaction  between  the  financial accounting and management accounting areas. The information provided by management accountants will provide information for internal users that will be reflected in the financial reports used by the external users. See table 1.3 for a detailed list of the differences between financial and management accounting.

1.3       Describe how  accounting information helps shareholders and lenders to make decisions concerning the operations and performance of an entity.

Users of accounting information (both internal and external) require accounting information to assist them in the decision-making process. External users such as investors, employees, banks, suppliers and government agencies (e.g. ATO) all have their own specific information needs. A potential investor will require past profits and future profit projections, as well as future growth prospects, to determine if the entity is a good investment proposition or not. Lenders will be seeking details of the level of risk it is exposing itself to by lending money to the entity plus the prospects of the entity repaying its debt.

1.6       List five stakeholders of  accounting   information. Describe the information requirements for each one; for example, lenders would need information regarding the business's ability to repay debt and service a loan.

Any five of the following:

1.7       Charlie Chan is considering purchasing a cafe in the inner Sydney suburb of Surry Hills.  Outline the importance of a business plan  for  Charlie  and the type  of accounting information she will require to assist her in making the decision.

For Charlie, the business plan would provide a clear, formal statement of direction and purpose. It would allow her to work towards a set of clearly defined goals in the daily operations of the business. It also helps her in evaluating the business.

Charlie should seek the advice of her accountant regarding the following.

1. Evaluate the purchase — from the accountant’s experience (or with assistance from her professional association) advice can be obtained on whether the purchase is a good buy or not (e.g. through comparisons of similar recent sales; analysing past financial reports).

2. Prepare budget forecasts (e.g. on sales — i.e. target sales of food necessary to make the purchase worthwhile or to compare whether it is better financially to remain in your present job  and  make  passive  investments  with  your  capital).  This  will  enable  a prospective buyer to evaluate if such sales are feasible.

3. Explain the personal qualities required in owning such a business (e.g. long hours; tedious work; customer relationships; impact on family life).

1.8       What is stakeholder theory and how is it related to corporate governance?

Stakeholder theory suggests that many groups other than shareholders have a stake in the activities and performance of an entity, and that corporate governance needs to reflect the wider duty of care that society is placing on the decision makers of entities.

1.9       What are the challenges associated with digital disruption for accountants?

With  the  streamlining  of  certain  accounting  processes  due  to  the  introduction  of  new technologies, there will be less need for traditional accounting services but at the same time there are additional opportunities for accountants in managing the regulatory, tax and financial implications of the fintech industry.

It is important for accountants and other business professionals to have the skills to understand data analytics. Accountants need to be able to blend data from different sources (e.g. company reports, ASX data, government data, economic data), use analytical tools to draw insights into the data, make decisions based on the data and communicate their findings to other parties (e.g. management, board, investors).

In addition, the blockchain creates many opportunities and challenges for the accounting profession. Some of the current accounting and audit roles will diminish, as there will be less need for accountants and auditors to perform the transaction processing, reconciliation and control-type tasks. However, there will be new opportunities for auditors in overseeing and auditing the blockchain.

The IIRC's stated objective is to develop an internationally accepted integrated reporting framework by 2 014 to create the foundations for a new reporting model to enable organisations to provide concise communication s of how they create value over time .

1.16     What is meant by business sustainability?

Business sustainability is considering the long term (multi-generational) in business decisions. It is about thinking of solutions to the world’s problems and in trying to change business practices  and  processes  to  ensure  a  respect  for  the  environment  and  people.  It  is  about integrating sustainability into the business and about being transparent and accountable via business sustainability reporting.

1.21     Outline some ways that accountants could contribute to the sustainability efforts of organisations.

In 2015, IFAC President, Olivia Kirtley, stated: ‘Accountants working in the public and private sectors have a significant role to play in supporting and making the decisions that guide an organisation’s ability to be resilient.’ The IFAC suggests eight practical ways for accountants to make a difference and fulfil their role as business partners.

1. Identify and connect key trends and impacts to the organisation’s strategy, business model and performance.

2. Integrate significant natural and social capital issues into decision-making processes.

3. Assess the benefits of tackling environmental  and social issues (e.g. cost reduction; revenue generation).

4. Organise internal  systems and processes  to  ensure  what matters  is  measured  and managed.

5. Link the strategy and resources to the creation of value for stakeholders. 6. Drive efficiency by reducing waste and controlling costs.

7. Provide credibility to the information and data produce through effective oversight and governance.

8. Communicate clearly to ensure transparency.

Source: Adrian, A 2015, Eight ways accountants can contribute to sustainability, 8 August, ICAS, viewed 3 December  2018,  available  at https://www.icas.com/ca-today-news/eight-ways-accountants-can-contribute-to- sustainability.

Additional ways that accountants could contribute to the sustainability efforts of organisations include the following.

. Reporting. Accountants are well versed in the application of standards for reporting. Their skills in this area can be applied to the reporting of a firm’s sustainability performance. Their systems could also be modified to incorporate environmental and social information. This could be used for both external and internal reporting purposes.

. Cost analysis. Comparison of two competing investment projects would require an

analysis of economic profits, so to do decisions relating to social and environmental initiatives. For example, a development may require land to be brought back to its original condition, a decision as to what tyres to purchase given the costs and impacts on company maintained roads, or the cost of implementing energy efficient devices compared to the energy consumption costs.

. Audit and assurance services. The concept, process and practice of audit and

assurance services are familiar ground for accountants. This makes them ideal candidates to help provide audit and assurance on the corporate social responsibility reports that are issued by organisations.

1.22     Suggest what the most important driver of sustainability would be and explain your rationale for its selection.

Sustainability is about meeting today’s needs without compromising the ability of future generations to meet their own needs. For a business to be sustained over time it needs to be profitable, it needs to maintain customer satisfaction, it needs to maintain product/service quality and it needs to maintain a good relationship with suppliers and to have sustained responsibility for its actions that impact on the environment and community.

Key drivers include the competition for resources, climate change, economic globalisation, and connectivity and communication. Students are likely to provide a range of answers which will provide an opportunity for a debate on the topic. Examples are shown below.

Competition for resources

The world’s population is projected to increase to more than 9 billion people by 2050. Rising living standards will result in both expanded markets for goods and services and unprecedented demands  on  the  planet’s  natural  resources.  Many  of  the   resources  once  considered renewable — like forests and fresh water — have become finite when we consider that human demands are growing more quickly than the ability of natural processes to replenish them. While exhaustion of commodities can be monitored and measured, the impact of depletion on ecosystems is harder to gauge and often impossible to remedy. With resource depletion comes risk of conflict as people struggle to meet their basic needs. Take water — population growth, economic development and climate change are straining access to fresh water globally. By 2025,  two-thirds  of  the  world’s  population  will  live  in  water-stressed  countries,  posing significant risks to the economic and social stability of entire regions and to the corporate operations in those regions.

Climate change

Our current fossil-fuel based economy has led to a growing concentration of greenhouse gases in the atmosphere that is driving more extreme weather events, more severe and frequent cycles of drought and flood, and rising sea levels. These phenomena are being met with new policies and  regulations  including  those  designed  to  limit  and  put  a  cost  on  carbon  emissions. Businesses need to plan for a policy environment increasingly hostile toward carbon emissions and for the costs of adaptation to climate change. A large number of businesses and investors have come together to call on governments at the national and global level to implement comprehensive climate policy. These groups include Business for Innovative Climate and Energy Policy (BICEP), US CAP, The Prince of Wales Corporate Leaders Group on Climate Change, the Investor Network on Climate Risk (INCR) and the Institutional Investors Group on Climate Change (II GCC), among others. These businesses recognise the opportunity to profit from technologies that reduce emissions and create solutions to global warming.

Economic globalisation

The  integration  of national  economies  into  the  global  economy  brings  opportunities  for business, but often with significant risks. More and more companies operate in or source from multiple  countries  with  wide  disparities  in  enforced  environmental  and  social  standards. Whatever the local enforced standard, many stakeholder groups demand, at a minimum, that companies meet international expectations.

Connectivity and communication

Advances in digital communication over the last two decades have reduced not only the time it takes to build a reputation, but also the time it takes to destroy one. Communication is increasingly disaggregated across multiple social networks. Facebook has over 65 million users, and is growing by more than 200 per cent per year. Twitter, while having a ‘mere’ 7 million users, has shown year-to-year growth of over 1000 per cent. Using these types of tools, it has never been easier for people to track a company’s sustainability performance and  to widely disseminate their perspectives on it. We have entered an era of ‘radical transparency’ .

1.35     Refer to the latest financial statements for JB Hi-Fi Ltd (the notes to the 2021

consolidated financial statements of JB Hi-Fi Ltd appear appendix 2 at the end of this text and the statements are available online athttp://investors.jbhifi.com.au). For each of the following stakeholders, give an illustration of a report or a note that would be useful for decision-making purposes, state why the information is useful and give an example of how that information would be used.

a.         Prospective shareholders

b.         Customers

c. Employees

d.         Suppliers to JB Hi-Fi Ltd

e. Auditors

f. Charity organisations

g.         Australian Taxation Office

a. JB Hi-Fi Ltd’s prospective shareholders. All  financial statements, auditor’s report and directors’ report. This information would be useful to help them assess the performance and position of the entity at the end of the financial period and what their future potential investment opportunities are.

b. Customers. Statement of profit or loss, notes on income and also notes on provisions such as warranties. This information can assist in determining the profitability of the business and by looking in the notes, the main sources of income for the business. Product warranty information may provide them with estimates on the percentage of products returned to the entity.

c. Employees of JB Hi-FiLtd. All financial statements. Employees are going to be interested in future profitability and cash flow. Job security and promotional opportunities will be of interest to employees. They will also seek information on remunerations such as employee share based plans.

d. Suppliers of JB Hi-FiLtd. Suppliers would be interested in the statement of profit or loss, statement of financial position and notes to the financial reports to determine the entity’s ability to meet future cash obligations. They would be concerned with repayment and the business meeting any interest charges. They would also like information to enable the calculation of certain ratios such as liquidity and financial structure ratios to determine what the debt situation currently is for JB Hi-Fi Ltd.

e. Deloitte (auditors). All financial statements and accompanying notes on policies. Auditors need to closely scrutinise the financial statements and the notes on accounting policies to determine what policies the firm has implemented during the period, which accounting standards have been early adopted (if any) and this combined will allow them to assess the accuracy of the amounts disclosed in the financial statements.

f. Charity organisations. The sustainability report. The sustainability report discusses the voluntary  initiatives  and  charitable  associations  that  the  entity  is  involved  in.  This information would provide charity groups with information to ascertain whether JB Hi-Fi Ltd is a good corporate citizen.