ACCT13017 - Assignment Two - Step One

Chapter Five – Predicting the Future

Even just looking the title of this chapter makes me think this will be a challenging read; but as Martin said on Facebook, we are now getting down to the ‘meat and potatoes’ of this unit. This is what we have been working towards for the past eight weeks, or rather, the past three years of university! Over the past few weeks we have observed how a firm really works, and made our attempts at fundamentally analyzing our companies. Now, it has come time for us to ‘predict the future’ of these firm; something which sounds incredibly difficult given that I don’t have access to a crystal ball.

My initial thought about reading through the first few pages in Chapter Five about Ryman Healthcare is that I don’t know my company QANTM Intellectual Property nearly as well. While I have tried to learn who they are, what they do and their circumstances over the past few weeks, I don’t know exactly what the rest of the Intellectual Property market is doing in Australia or globally, or where they are heading in terms of business development or growth. I also especially don’t know how this global pandemic will affect the Intellectual Property market or how it will recover in the coming months and years.

There seem to be so many different forecasts that we need to do in order to (start to) predict the future of our firms. Forecasting their return on net operating assets, our firms’ equity and enterprise economic profit, their free cash flow... this all has me fairly confused at the moment and I’m not completely understanding why these all need to be calculated. While I do understand that these calculations will assist us in predicting the future of our firms, at this current moment I am not sure how they will. I suppose that this is something that I will discover over the coming weeks while completing the rest of this assignment.

Reading through the section about determining ‘good’ and ‘bad’ sales growth also has me fairly confused. One of the segments which was especially unclear to me was the following: “Actions to grow sales that reduce ATO will increase NOA but will also reduce RNOA. Depending on which effect is greater, this type of sales growth may increase or reduce economic profit and so either add or destroy value to equity investors. Equally, growth in sales that reduces PM, will also increase NOA and reduce RNOA. Again, depending on which effect is greater, this type of sales growth may either add or destroy value to equity investors”. I think that this is something I will have to look into further and apply to a ‘real’ example of my own to strengthen my understanding.

One of the key concepts I gained from this chapter is that forecasting is about looking far beyond the financial statements (just like looking far beyond the mountains near my home) and considering the economic environment that my company is in, and engaging with their business and economic drivers to help understand where they are headed in the future.

Another thing I took away from this chapter (which is something that I already knew but was a nice reminder) is that it is much easier to analyse a firm and start to predict their future if everything in broken into smaller manageable ‘chunks’, but keeping in mind that each of these parts are still directly related to one another. I suppose that this is the same for many things; if a 5,000 word university assignment is looked at as ‘one large assignment’ it can become quite overwhelming and difficult to start and to map out the key points that need to be discussed. However, if this is broken into a paragraph for the introduction, many paragraphs for the main body with separate sections for each key point, and a paragraph for the conclusion, it is much easier to start and to link each paragraph together so that the idea’s flow.

On to the next chapter…

Chapter Six – Focus on the Enterprise

Simplifying our life… that sounds like an excellent idea to me, whether it be in terms of simplifying our personal lives or de-cluttering our homes, to simplifying the analysis of our firm’s financial statements and the frameworks involved. Forecasting the future, in any respect, seems to be a sometimes daunting and difficult task, and is one which would benefit from being simplified as well.

Martin mentions in Chapter six that the concept of the weighted average cost of capital (WACC) should be a familiar notion for those who studied Business Finance. I now have a slighter better idea of what this is from previous readings in this unit; however I must say that I had completely forgotten it from when I completed my Business Finance unit in 2017. I actually thoroughly enjoyed the Finance subject but I suppose that it just shows that unless I completely understand a concept, it is likely that I won’t remember it in any detail (or perhaps it shows that I have the memory of a goldfish as well). So, what is the weighted average cost of capital, or at least what do I understand of it? I think the WACC represents the opportunity cost of engaging in risk and investing into a company. It also determines the required rate of return for an investment into that company. I still don’t think that I have fully grasped this concept but I hope it is something that I can do before the completion of this unit and by the end of my degree.

A concept that I found interesting in this chapter was how the earnings growth can be created through investment, changes in accounting methods or through financial leverage; and that it can be both good and bad – similar to the sales growth in chapter five. ‘Bad’ earnings growth can be generated in ways that do not actually create value for the investors, whereas ‘good’ earnings growth does create and increase value for the investors. This is generally done by making changes in the economic and business drivers of the firm’s operations.

Overall I found that there were many daunting topics covered in these two chapters, and there is a lot that I have not grasped the concepts of yet. I am genuinely trying to completely understand and engage with these concepts rather than ‘learn by rote’ and to just pass assignments, but when it comes to the sheer amount of information and terms that I am unsure of in chapters like these I am struggling.