ACCT13017 Questions: Week 2 How a Firm Adds Value

Question 1

Henry Mintzberg has noted that nobody has ever seen a firm’s strategy. He describes a firm’s strategy as ‘a figment of someone’s imagination’ (See Section 2.2). How can we base our analysis of financial statements on figments of imagination, on insubstantial dreams of people? Is all our detailed analysis of a firm’s financial statements simply built on sand; susceptible to well-marketed strategies from the management of firms? Tell me what you think about this issue. Does it worry you? Why or why not?

Question 2

In using financial statements to help us understand and value firms we need to be wise before the event. A key to being able to do this is to understand a firm’s strategy. What does this mean exactly? Are not the financial statements of a firm backward looking, that is they tell us about the past of firms rather than their future? Discuss, particularly telling me how you think analysing financial statements is, or is not, a ‘Look Back from the Finish Line’.

Question 3

Ryman Healthcare’s shares have traded at prices representing over three times the book value of its shareholders’ equity. Assuming Ryman Healthcare’s share price reflected a reasonable estimate of its value, what possible use can its financial statements be to help us understand Ryman Healthcare’s economic and business realities? Do we not need to look at other sources of information to understand most of the sources, or reasons, for its value to equity investors? Comment.

Question 4

Benjamin Graham and David Dodd, in their classic and highly regarded book Security Analysis, suggest we need to be “highly critical of accounting methods”. Do you agree? Why or why not? Do we not need to ‘trust’ a firm’s financial statements and its underlying accounting methods if we are to act on the results of our financial statement analysis?

Question 5

Do you think management (and accountants) of listed companies in Australia, New Zealand, UK and other countries in the world are generally honest, usually act in the best interests of a range of stakeholders including equity investors, and genuinely seek to ensure a firm’s financial statements provide useful insights into a firm’s economic and business realities? Why or why not? If you were a chief financial officer of a listed company could the capital markets rely on you to ensure the firm’s financial statements provide useful insights into a firm’s economic and business realities? Why or why not?

Question 6

Given your answer to Question 2-5, how does this make you feel about the task of financial statement analysis? What attitude do you think you need to adopt in respect to assessing a firm’s accounting treatments?

Question 7

Warren Buffett advises people to take as many accounting courses as you can, to become very conversant about accounting, which is the ‘language of business’. Why might Warren Buffett recommend this?