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1. Executive Summary
The aim of this report is to provide an accounting analysis of the 2011 annual report for Bank of Queensland Limited (BOQ), and a critique of the reporting of their performance. The report discusses the choice of accounting policies and the flexibility of these policies. The main objective of this report is to evaluate and recognise the possibility of using creative accounting within the company, recognise and questionable accounting numbers within items listed previously. A number of items have been selected from Income Statement, Balance Sheet and Cash Flow Statement.
Bank of Queensland Limited (BOQ), has history of 137 years with network of over 280 branches operating in Queensland. It offers core banking (commercial/retail), equipment finance, wealth management and insuranceservices. BOQ is listed on the ASX and uses its unique concept of the Owner-Managed Branch (OMB),a partnership between the Bank of Queensland (franchisor) and experienced bank managers (franchisees) to provide banking services.
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3. Description of key accounting policies and standards
3.1 Loans and advances at amortised cost (Asset)
As shown on BOQ’s Balance sheet in FY11, loans and advances at amortised cost are big-ticket itemsin its assets accounting for approximately 98 per cent. According to the significant accounting policies explored by BOQ annual report 2011, loans and advances are originated by the bank and are recognised upon cash being advanced to the borrower. Based on AASB13, loans and advances are initially recognised at fair value plus incremental direct transaction cost using the effective interest method.
3.2 Deposits and borrowing (Liability)
Deposits, as the one of the most important cash inflows of the bank, follow ruleAASB13 as well.
They are initially recognised at fair value plus transaction costs and thenby using the effective interest method, they are measured at amortised cost. It is classified in two concentrations: retail deposits and wholesale deposits.
3.3 Employee benefits (Expense)
This item follows AASB119Employee Benefits which has been amended in its accounting rules affecting the measurement of its obligations and the timing of recognition of termination benefits. Employee benefits can be classified to four categories: wages, salaries and annual leave; long service leave; superannuation plan and share based payments.
4. Flexibility of Management in Selecting the Key Accounting Policies It is undeniable that having flexiblemanagement can exert positive effects on the presentation of company’s annual financial report. Specifically, from the Bank of Queensland´s perspective, if mangers have considerable adaptability in selecting the key accounting policies, the financial performance of Bank of Queensland Ltd can be improved; therefore more investors and customers would give priority to cooperating with them in the future. 4.1 Loan and Advances at Amortized Cost
4.1.1 Flexibility Analysis The measurement of loans and advances at amortized cost is extremelyfavourable to commercial banks. From BOQ’s consolidated financial annual report, the loan and advances at amortized cost accounted for around 83.3% of total assets in 2011, it had increased from 31,736,5 million to 33,276,1 million during 2010 to 2011. This change in $1539, 6 million was caused by impairment charges made by managers of the bank. The increase of loans and advances at amortized cost could enhance the customers trust in the bank.
Sincefinancial funds, credit business and debts are the core business transaction of the banking industry, this itemappears to increase receivable accounts. Also, as banks could charge a reasonable rate of interest on such future loans/advances, they are able utilizethis income to pay current liabilities, wage and salaries of employees, and also the tax liability of business. Consequently, the BOQ’s managers have selected a flexible accounting policy in this item.
4.1.2 Accounting policies analysis
Being dominant in the assets, loans and advances at amortized cost carries the burden of generating cash. The way that Bank of Queensland recognizes loans and advances at amortized cost can be separated to two phases. Initially, loans are recognized at fair value plus incremental direct transaction costs. Secondly, BOQ uses effective interest method to measure the amortized cost at each reporting date. The advantage of this accounting policy is that including direct transaction cost in the loan price can offset the actual transaction cost occurred and maximize the profit for the bank. Additionally, the effective interest method is considered as one of the prior methods for amortizing a bond discount. Theoretically, investors require a discount on bonds because the market interest rate at the time of issue is higher than the coupon payments on the bond. Therefore, by amortizing the discount at the market interest rate, accounting statement of Bank of Queensland will exactly reveal the economic reality of the bond issue and its true cost of debt.
4.2Deposits and Borrowing
4.2.1 Flexibility Analysis Due to the characteristics of banking industry, there is a high flexibility for management in these two liabilities. It is noticeable that deposits and borrowing accounted for about 97% of total liabilities on the balance sheet. Occupying 69% of total deposits, managers pay more attention to Retail Banking Services because of itsattractiveness to customers compared to other types of deposits.
4.2.2 Accounting Policies Analysis
This policy states that securitization set-up costs relating to on-balance sheet assets are included with securitization borrowings, and amortization is recorded as interest expense. Initially, excluding off-balance sheet costs makes the liability much smaller and enlarges their net assets. Likewise, interest on debt is a tax-deductible expense and creates a tax shield benefiting Bank of Queensland. The major function for this policy is to save cash flows for BOQ.
4.3 Employee Benefits
4.3.1 Flexibility Analysis Employee expenses mainly consist of share based payments and employee benefits. All of these kinds of financial activities are beneficialto BOQ.The result from increasing incentives to employees applies as it encourages them to performenthusiasticallywhicheventuallyleads to higher profits for the firm.
4.3.2 Accounting policy analysis
Among Employee Benefits, shared based payments are distinguished. The accounting policy demonstrates that Bank of Queensland allows employees to acquire its shares, options and rights sold recognized in the Employee Benefits Reserve. This expense could be reversed if the loss is not due to a market condition. This is highly beneficial as it encourages employees to purchase shares of their own company but, on the other hand, as more shares are sold, the higher price rises in the stock exchange.
5. Quality of Disclosure Made in BOQ Accounts
The quality of disclosure in the BOQ´s policies, strategy, performance and financial statements and reports is satisfactory as it provides accessible, transparent and fairly justified information. As the BOQ is a listed company, it has to comply with all ASX disclosure policies and reporting but in addition it also complies with the ASX Corporate Governance Recommendations as well as the Australian Prudential Standards (APS) (Profit Announcement 2011). In the profit announcement report for 2011, BOQ discloses a number of disclosure principles which include management, board structure, ethical and responsible decision making, financial reporting, timely and balanced disclosure, respect rights of shareholders, recognize and manage risk, remuneration.
5.1 Business Strategy and Economic Consequences
The business strategy and economic consequences are disclosed in the notes to the annual report in terms of the risk management of the company. As it explains in these notes the bank approach is to manage its risk in terms of credit risk, market risk, liquidity, operational risk, compliance policies and capital management. As it states in the annual report there is a high level of assessment and monitoring of these risks in order to follow the company´s strategy.
5.2 Notes to the Financial Statements – Explanation of Policies The notes to the financial statements and reports do provide an explanation to the bank´s management policies. According to the 2011 Annual Report these policies provide effectiveness and efficiency in terms of managing the risks described above as well as creating controls to support growth and competitive advantage. An example of these policies in 2011 was a strong expense management which lead them to reduce their cost-to-income ratio from 45.8% to 44.5%. Moreover, these policies provide regulatory compliance as well as performance management.
5.3 Explanation of Current Performance
BOQ through its yearly Profit Announcement Report clearly explains its current performance in terms of its principal activities. It states its current level of profitability and the main reasons for any losses. As well as these profit or losses explanations the report shows explanations for changes in expenses, asset growth, retail deposit growth, branch network expansion and capital management.
5.4 Accounting / Financial Rules
In terms of financial conventions that restrict the firm as a banking institution, the main one is the Basel II Accord in which the bank is obligated to maintain capital adequacy requirements. In the 2011 Annual report is mentioned that Tier 1 capital made up of equity capital and disclosed reserves was higher than required by Australian Prudential Regulation Authority (APRA). Moreover, AASB 124 Related Party Disclosures is additionally disclosed in order to understand the impact on the firm. Moreover it discloses all its consolidated statements for all subsidiaries of the group following all consolidation standards.
5.5 Segment Disclosure
The quality of the segment disclosure for BOQ is sufficient as it discloses its two operating segments, and since the bank operates only in Queensland, it does not need geographical segmentation. It discloses the high level metrics for both of the banking and insurance segments as well as consolidated totals (Annual Report 2011 pg. 89). Also, following consolidation requirements it eliminates inter-company transactions (Annual Report 2011 pg. 89).
6. Questionable Accounting Numbers
The most important and questionable numbers can be seen in the yearly Profit Announcement where BOQ announced a net loss after tax of 90.6 million AUD. The explanation for this loss was attributed to significant impairment charges. As the income analysis shows that the company made a reasonable operating income loss, but the large part of the loss was due to a revision of their commercial loans and provisioning approach. They decided to increase these specific commercial loan provisions more than close to 90 million due to the continuous decline in commercial property in Queensland. Along with loan impairments, the bank also impaired a substantial amount of assets, also because of the decline if commercial property.
Furthermore in the Directors Report in 2011 there were some potential red flags regarding remuneration. As the bank went through a restructure last year there were a number of high level managerial positions that changed in this period. During this transition there were a number of payments classified as ´others` that did not have a clear explanation. An example of this includes a payment of half a million dollars to the previous CEO to ´ensure a smooth transition` between him and the newly appointed CEO. While taking into account the Director´s report is audited by KPMG, this payment seemed excessive.
7. Undone Distortions
Based on previous parts, the conclusion has arrived that BOQ suffered net loss of $90.6 million because of the tremendous growth in impairment loss. The footnote disclosures in the Profit Announcement provide the composition of the impairment loss. According to note 11, loan impairment expenses totalled $327.7 million. $165.7 million of this amount is specific provision impairment and the rest $162 million relates to collective provision. Moreover, impairment loss for assets also amounts to $578.7 million. Note 4suggests that BOQ´s management increase its impairment loss based on their estimates of dropping commercial property market. However, this estimate comes from historical experience and professional judgment. In contrast, the estimate might be different from actual results. Therefore, distortions may arise resulting from overstated impairment loss. In order to undo the distortion, the impairment loss should have been adjusted to a lower level with fewer provisions.
8. Financial Press Discussions
Even before the Profit Announcement of BOQ came out, many financial reporters foresaw the net loss of BOQ resulting from increasing impairment loss. The downturns in tourism and recent natural disasters impacted Queensland’s economy negatively, and the conditions in Queensland were expected to remain challenging in the future because of strong Australian dollar. As a result, for BOQ— a company that is highly exposed to Queensland housing market, the current poor performance of might not change in short term.Following by the poor performance, BOQ isnow struggling to keep regulators happy and keep its capital at acceptable level. On 26 March 2012, BOQ announced aequity rising of $450 million. However, by doing this, the existing shareholders of BOQ will be heavily diluted and it will cause its share price to drop significantly.
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