Subsidiaries Of Wm Morrison Supermarkets Plc Accounting Essay

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Morrison Supermarkets plc. is one of the biggest four supermarkets food retailer in the United Kingdom. It became a public limited company in 1967 and listed in the London Stock Exchange (LSE). Morrison has currently over 500 stores across United Kingdom with an annual revenue over £17bn overall (About Us: Morrison, 2013). The company profit was £947m, with an increase of £73m (8%) compared with £874m last year.

Morrison's investments contain of investments in equity instruments. All equity instruments are held for long term investment and are measured at fair value through other comprehensive income. Where the fair value of the instruments cannot be measured reliably, the investment will be recognized at cost less accumulated impairment losses in accordance with IFRS 26 'Financial instruments: recognition and measurement'. Any impairment is recognized immediately in profit or loss. The investments in subsidiary undertakings are stated at cost less provision for impairment. However, Table 1 is shown the subsidiaries of Morrison Supermarkets PLC.

Table 1: Principal subsidiaries

Subsidiaries of Wm Morrison Supermarkets PLC

Principal activity

Equity holding

%

Farmers Boy Limited

Manufacturer and distributor of fresh food products

100

Neerock Limited

Fresh meat processor

100

Wm Morrison Produce Limited

Produce packer

100

Safeway Limited

Holding company

100

Optimisation Developments Limited

Property development

100

Safeway Stores Limited

Grocery retailer

100

(Source: Morrison 2012 annual report note 31)

The Group currently owns 51% of the share capital of Farmers Boy (Deeside) Limited. However, due to the nature of options in place to purchase the remaining 49% share capital in 2013, the subsidiary has been treated as if it were already 100% owned for accounting purposes.

Regulatory Framework for financial reporting:

Morrison is required to present fairly the Group's financial position, financial performance and cash flows in accordance with:

International Financial Reporting Standards (IFRS).

International Financial Reporting Interpretation Committee (IFRIC).

The requirements of the UK Disclosure and Transparency rules of the Financial Services Authority in UK.

The Parent company's financial statements have been prepared in accordance with United Kingdom Generally Accepted Accounting Practice (United Kingdom Accounting Standards and applicable law).

The financial statements have been prepared under the historical cost convention as modified by the recording of pension assets and liabilities and certain financial instruments. The most critical of judgments and estimates that can have a significant impact on the financial statements relate to:

The useful economic life of assets and ore reserves.

Impairment of assets.

Restoration, rehabilitation and environmental costs.

Retirement benefits.

2. Impairment of Assets

Under (IAS 36) Impairment of Assets requires to ensure that company's assets are not carried at more than their recoverable amount (higher of fair value less costs to sell and value in use). However, with Goodwill and intangible assets an impairment test is annually required. If there is an induction of an impairment of an asset, company is require to conduct impairment test, and the test may be conducted for a 'cash-generating unit' where an asset does not generate cash inflows that are largely independent of those from other assets.

According to (Deloitte, 2008) IFRS requires impairment testing at the "cash-generating unit" (CGU) level, which is generally similar to the U.S. GAAP "asset group" level, but may result in a lower level of testing.

However, IFRS differs from U.S. GAAP in the method and valuation for calculating impairment, and allows for reversal of impairment with the exception of Goodwill. Long-lived asset impairment is a one-step approach under IFRS and is assessed on the basis of recoverable amount, which is calculated as the higher of fair value less costs to sell or value in use (e.g. discounted cash flows). If impairment is indicated, assets are written down to the higher recoverable amount.

Table 2: Comparison of Impairment Approaches

U.S. GAAP

U.S. GAAP

IFRS

Goodwill

Fixed Assets

All Finite & Indefinite-Lived Assets

Step 1

Determine if impairment exists by comparing the total carrying value of the reporting unit to its fair value. If the carrying value exceeds the fair value, go to step 2.

Determine whether impairment exists

by comparing the carrying value of the asset group to the undiscounted cash flows. If the carrying value exceeds the undiscounted cash flows, go to step 2.

Determine if impairment exists by

comparing the carrying value of the CGU or asset to its recoverable

amount as defined above. If the carrying value exceeds the recoverable amount, impairment is recognized for the difference.

Step 2

Calculate and assign fair value of all other assets and liabilities of reporting unit, remainder equals

implied Goodwill. Impairment charge

is measured as the difference between

the carrying value and implied fair value of Goodwill.

An impairment charge is recognized by reducing the carrying value of the asset group to its estimated fair

value.

Not applicable.

(Source: Deloitte, 2008 IFRS).

However, the company divided into cash generating units for the impairment test of non-current assets. If there are indications of possible impairment then a test is performed on the asset affected to assess its recoverable amount against carrying value. An impaired asset is written down to its recoverable amount which is the higher of value in use or its fair value less costs to sell. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset (Morrison 2012 annual report).

If there is indication of an increase in fair value of an asset that had been previously impaired, then this is recognized by reversing the impairment, but only to the extent that the recoverable amount does not exceed the carrying amount that would have been determined if no impairment loss had been recognized for the asset. Impairment losses previously recognized relating to Goodwill cannot be reversed (Morrison 2012 annual report).

3. The impairment of Goodwill

According to (IAS 36.96) Goodwill must be tested annually for impairment. Goodwill should be allocated to each of the acquirer's cash-generating units, or groups of cash-generating units to test for impairment. If the recoverable amount of the unit exceeds the carrying amount of the unit, the unit and the goodwill allocated to that unit is not impaired. If the carrying amount of the unit exceeds the recoverable amount of the unit, the entity must recognize an impairment loss.

Table 3: Goodwill and intangible assets

Goodwill

£m

Brands

£m

Software

development

costs £m

Licenses

£m

Total

£m

Current period

Cost

At 30 January 2011

7

-

173

20

200

Acquired in a business combination

27

15

19

-

61

Additions

-

-

70

2

72

Interest capitalized

-

-

7

-

7

At 29 January 2012

34

15

269

22

340

Accumulated amortization and impairment

At 30 January 2011

-

-

9

4

13

Charge for the period

-

1

16

7

24

At 29 January 2012

-

1

25

11

37

Net book amount at 29 January 2012

34

14

244

11

303

(Source: Morrison 2012 annual report note 10)

Table 3: Consolidated balance sheet 29 January 2012

Assets

Non-current assets

2012

£m

2011

£m

Goodwill and intangible assets

303

184

The company does not impair Goodwill, thus there was no effect on financial statements. However, if the company has impaired the Goodwill the company will write down Goodwill by reporting an impairment expense. The amount of the expense directly reduces net income for the year. The company has not tended to delay any historical impairment loss and no impairment loss was identified in the current financial year. However, any Goodwill arising on a business combination is not amortized but is reviewed for impairment on an annual basis or more frequently if there are indicators that Goodwill may be impaired. Any impairment is recognized immediately in profit or loss (Morrison 2012 annual report).

Table 4: Review and Benchmark (Morrison, Sainsbury and Tesco are all food retailer companies listed in LSE)

Morrison

Sainsbury

Tesco

Test indication for impairment at each balance sheet date







Intangible asset with an indefinite useful life is tested annually







Goodwill allocated to (group of) CGU expected to benefit from the A&M and represents the lowest

management level







(Source: Morrison, Sainsbury and Tesco 2012 annual report).

4. Financial Instruments

The financial instruments reported in Morrison are as follow:

Financial assets

Trade and other debtors

Trade and other debtors are initially recognized at fair value. Provision is made when there is objective evidence that the Group will not be able to recover balances in full, with the charge being recognized in 'Administrative expenses' in profit for the period. Balances are written off when the probability of recovery is assessed as being remote.

Cash and cash equivalents

Cash and cash equivalents for cash flow purposes are held at book value which equals the fair value and includes cash-in-hand, cash-at-bank and bank overdrafts together with short term, highly-liquid investments that are readily convertible into known amounts of cash, with an insignificant risk of a change in value, within three months from the date of acquisition. In the balance sheet bank overdrafts that do not have right of offset are presented within current liabilities.

Cash held by the Group's captive insurer is not available for use by the rest of the Group as it is restricted for use against the specific liability of the captive. As the funds are available on demand, they meet the definition of cash in IAS 7 'Cash flow statements'.

Table 5: Financial assets [IAS39.45]

2012

2011

Measurement base

Changes in fair value

At fair value through profit and lost:

Trade and other debtors

(329)

(323)

Fair value

I/S

Loans and receivables [IAS39.46a]

Cash and cash equivalents

241

228

Amortized cost

BS

There are no financial instruments classified as "Held to maturity investments".

Financial liabilities

Trade and other creditors

Trade and other creditors are stated at fair value.

Borrowings

Interest-bearing loans and overdrafts are initially recorded at fair value, net of attributable transaction costs. Subsequent to initial recognition, any difference between the redemption value and the initial carrying amount is recognized in profit for the period over the period of the borrowings on an effective interest rate basis.

Table 5: Financial Liabilities [IAS39.47]

2012

2011

Measurement base

Changes in fair value

At fair value through profit and lost:

Trade and other creditors

-

-

Fair Value

I/S

Loans and receivables [IAS39.46a]

Borrowings

1,102

25

Amortized Cost

I/S

Derivative financial instruments and hedge accounting

Derivative financial instruments are initially measured at fair value and remeasured at fair value through profit or loss, except where the derivative qualifies for hedge accounting.

Cash flow hedges

Derivative financial instruments are classified as cash flow hedges when they hedge the Group's exposure to variability in cash flows that are either attributable to a particular risk associated with a recognized asset or liability, or a highly probable forecasted transaction.

The Group has cross-currency swaps designated as cash flow hedges. These derivative financial instruments are used to match or minimize risk from potential movements in foreign exchange rates inherent in the cash flows of the US Dollar private placement loan notes.

To minimize the risk from potential movements in energy prices, the Group has energy price contracts which are designated as cash flow hedges.

To minimize the risk from potential movements in foreign exchange rates, the Group uses forward exchange contracts with financial institutions which are designated as cash flow hedges.

Derivatives are reviewed annually for effectiveness. Where a derivative financial instrument is designated as a hedge of the variability in cash flows of a recognized asset or liability, or highly probable forecast transaction, the effective part of any gain or loss on the movement in fair value of the derivative financial instrument is recognized in other comprehensive income and presented in the hedging reserve in equity.

The gain or loss on any ineffective part of the hedge is immediately recognized in profit for the period within 'Cost of sales' in relation to the energy price contracts and within 'Finance income/costs' in relation to the cross-currency swaps.

If a hedge of a forecast transaction subsequently results in the recognition of a financial asset or liability, the associated cumulative gains or losses that were recognized directly in equity are reclassified into profit for the period when the transaction occurs.

Fair value hedges

Derivative financial instruments are classified as fair value hedges when they hedge the Group's exposure to changes in fair value of a recognized asset or liability or an unrecognized firm commitment. The hedging instrument is stated at fair value and any changes in fair value are immediately recognized in other comprehensive income.

Hedge accounting is discontinued when the hedging instrument expires or is sold, terminated or exercised, or no longer qualifies for hedge accounting. At that time, any cumulative gain or loss existing in equity at that time remains in equity and is recognized when the forecast transaction is ultimately recognized in the income statement. When a forecast transaction is no longer expected to occur, the cumulative gain or loss reported in equity is immediately transferred to the income statement.

Table 6: Group's derivative financial instruments

At 29 January 2012

< 1 year £m

1 - 5 years £m

5 + years £m

Cross-currency swaps - cash flow hedges

Outflow

(8)

(31)

(234)

Inflow

7

28

230

Forward contracts - cash flow hedges

Outflow

(67)

-

-

Inflow

66

-

-

Energy price contracts - cash flow hedges

Outflow

(4)

(3)

-

Inflow

2

-

-

The derivative includes: Cross-currency swaps, Forward contracts and Energy price contracts. Those are used to hedge risk from foreign exchange, interest rate and commodity price. No derivatives are used for speculative purposes.

5. Financial risk management

The major types of risk of Morrison are Foreign currency risk, Liquidity risk, Credit risk and Other risk. However, the objectives, policies and processes for managing these risks are stated below:

Foreign currency risk:

The majority of this risk in Group occurs when the company trade purchases in Sterling and overseas trade purchases made in currencies other than Sterling, primarily being Euro and US Dollar. The Group's objective is to reduce risk to short term profits and losses from exchange rate fluctuations. It is Group policy that any transactional currency exposures recognized to have a material impact on short term profits and losses will be hedged through the use of derivative financial instruments. At the balance sheet date, the Group had entered into forward foreign exchange contracts to mitigate foreign currency exposure on up to 50% (2011: 50%) of its forecasted purchases within the next six months.

Liquidity risk:

The Group policy is to maintain a balance of funding and a sufficient level of undrawn committed borrowing facilities to meet any unexpected obligations and opportunities. Short term cash balances and undrawn committed facilities, enable the Group to manage its liquidity risk. At 29 January 2012, the Group had undrawn committed facilities of £725m.

Credit risk:

The Group credit risk arises from cash and cash equivalents, deposits with banking groups as well as credit exposures from other sources of income such as supplier income and tenants of investment properties.

Other risk:

Pricing risk: The Group manages the risks associated with the purchase of electricity, gas and diesel consumed by its activities(excluding fuel purchased for resale to customers) by entering into bank swap contracts to fix prices for expected consumption.

Cash flow interest rate risk: The Group's long term policy is to protect itself against adverse movements in interest rates by maintaining approximately 60% of its consolidated total net debt in fixed rate borrowings. As at the balance sheet date 70% (2011: 55%) of the Group's borrowings are at fixed rate, thereby substantially reducing the Group's exposure to adverse movements in interest rates.

According to Provision for impairment of Financial Instruments, the company does not disclose any other provision in term of impairment of Financial Instruments.

As we explained before the company use hedge accounting and the table below explain company's hedge polices compared with the industry practice.

Table 7: Company's hedge polices compared with the industry practice.

Policy

Morrison

Sainsbury

Cash Flow Hedge

Forward exchange contracts

Energy price contracts

Currency swaps

The changes in fair value of derivatives that are designated as effective are recognized in equity until the hedged transactions occur, at which time the respective gains or losses are transferred to the income statement. The ineffective portion is recognized in I/S (Morrison 2012 annual report note 10).

Forward contracts

Commodity contracts Currency Swap

The effective portion of changes in fair value of derivatives are recognized in Equity, the gain or loss relating to ineffective portion is recognized in I/S.

Fair Value Hedge

Cross-currency Swaps

Changes in fair value of derivatives immediately recognized in equity and change in fair value of hedged item is recorded in I/S.

Interest Rate Swaps

Changes in fair value of derivatives and change in fair value of hedged item is recorded in I/S.

The basic policies of these two companies are similar. However, they use different instruments in hedging. Fair value hedge are mainly used to hedge the exposure from interest risk. Cash Flow hedge are mainly used for goods price fluctuation.

6. Retirement Benefit

Table 8: Post employment Policy

Accounts

Treatment

Defined contribution scheme

is a pension scheme under which the Group pays fixed contributions into a separate

entity.

Pension benefits under defined benefit

schemes

defined on retirement based on age at date

of retirement, years of service and a formula using either the employee's compensation package or career average

revalued earnings.

Pension scheme assets

held in separate trustee administered funds, are valued at market rates.

Pension scheme obligations

measured on a discounted present value

basis using assumptions

The operating and financing costs of the scheme

recognized separately in profit

for the period when they arise

Death-in-service costs

recognized on a straight line basis over their vesting period.

Actuarial gains and losses

recognized immediately in other

comprehensive income.

(Morrison 2012 annual report, Group accounting policies).

The major assumptions used in this valuation to determine the present value of the schemes' defined benefit obligation are shown below:

Financial

2012

2011

Rate of increases in salaries

4.55%

5.05%

Rate of increase in pensions in payment and deferred pensions

2.50%-3.30%

3.30%-3.80%

Discount rate applied to scheme liabilities

4.75%

5.60%

Inflation assumption

3.30%

3.80%

Longevity

The average life expectancy in years of a member who reaches normal retirement age of 65 and is currently aged 45 is as follows:

2012

2011

Male

24.4

24.2

Female

25.3

25.1

The average life expectancy in years of a member retiring at the age of 65 at balance sheet date is as follows:

2012

2011

Male

22.0

21.8

Female

23.0

22.8

Expected return on assets

The major assumptions used to determine the expected future return on the schemes' assets, were as follows:

2012

2011

Long term rate of return on:

Equities

5.90%

7.45%

Corporate bonds

4.75%

5.60%

Gilts

2.90%

4.44%

Property related funds

-

5.60%

Cash

1.50%

1.50%

The company has no any off-balance sheet post-employment obligations. The expected return on plan assets is based on market expectation at the beginning of the period for returns over the entire life of the benefit obligation (Morrison 2012 annual report, note 20).

The difference between forecasted benefit and actual benefit: "If the fund set aside in the post-employment plan are greater (less) than the plan commitments, the plan is overfunded (underfunded)" (Palepu et al., 2007). Therefore, the economic obligation of the company will not be reflected properly. If the forecast for post-employment obligation is too low to the actual, the firm's obligations and related expenses recognized in the Income Statement will be underestimated.

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