Audit: Critical Analysis Of National Australia Bank Limited (nab) And Woolworths Group Ltd (WOW)

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1. Introduction

1.1 Purpose

The aim of this report will be performing a critical analysis of the two companies which are listed in the Australian Securities Exchange (ASX) market. The two companies which will be analyzed are . Two companies registered under two different class of industry in ASX. Woolworths is registered as consumer staples, food & staples retailing in ASX and National Australia Bank is registered as the financial and banking industry.

This report will review critical by using two companies’ 2018 annual report, especially focus on 2018 financial statement and audit report. This report will cover the following areas: the performance of two companies, key business and inherent risk, audit strategies and audit test undertaken by two companies, audit onion, audit report, and auditor responsibility.

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1.2 Background

National Australia Bank Limited (NAB) was first established in 1982 by a merger of National Bank of Australasia (1858) and Commercial Banking Company of Sydney (1834). National Australia Bank is a financial services group that provides a comprehensive and integrated range of banking and financial services including wealth management throughout Australia and New Zealand, with branches located in Asia, United Kingdom (UK) and the United States (US). Company has almost 160 years of history and currently, its has more than 900 branches across Australia with more than 33,000 employees, over 584,000 shareholders and serving around nine million customers (National Australia Bank 2018) .

Woolworths Limited (WOW) is an Australia based company which was first established in 1924 and is a retailer with primary activities in supermarkets. Woolworths other operation includes: BIG W discount department stores, Dan Murphy, Countdown, BWS, petrol through the Woolworths/Caltex alliance and hotels. It has employed 201,522 employees in Australia from its all subsidiaries under the Woolworths Group, who serve twenty-nine million customers every week. Also, it has 3240 stores worldwide under their group (Woolworths Limited 2018) .

2. Comparison of Financial Statements

2.1 National Australia Bank Limited Performance (Banking Industry)

The performance of National Australia Bank will be analyzed based on 30 June 2018 annual report with comparing with other banks, which operate within the same industry as National Bank of Australia, which are New Zealand Banking Group (ANZ), Common Wealth Bank of Australia (CBA) and Westpac Banking Corporation (WBC).

Company Income Growth (%) Net profit ($m) Net Profit Change (%) Profit Margin Basic Earning per Share (cents)

ANZ 5.95% 7,111 11.83% 19.95% 245.60

CBA 2.89% 9,394 -4.01% 22.19% 536.90

NAB 5.87% 5,945 -3.82% 17.41% 215.60

WBC 1.82% 8,095 1.31% 21.19% 237.50

As the chart shown above, the National Australia Bank had significantly low net profit compare to other banks operate in the same banking industry. Income growth of NAB is relatively high compared to other banks as NAB is in the second place. However, even though there was an increase in income growth, net profit of NAB has been dropped by 3.82%, while net profit for ANZ and WBC increase. Profit margin ratio would able to explain this result because NAB has the lowest profit margin among the bank industry. Which means that NAB has the most inefficient ability to transfer revenue into profit compare to the other three banks. Another measurement of the NAB’s performance could be the earning per share (EPS). As EPS of NAB is the lowest compared to others, NAB’s performance to generate a return for its shareholders is worst in the industry.

In overall, NAB’s performance is not bad when analyze itself. Although profit has declined, NAB sill generating significant profit and as income has been increased; if NAB can reduce expenses, profit can increase as well. However, NAB’s performance across the industry is the worst as can be seen in all indicator except income growth in the chart.

2.2 Woolworths Limited Performance (Food and Stapes Retailing Industry)

Company Revenue Growth (%) Net profit ($m) Net Profit Change (%) Profit Margin Basic Earning per Share (cents)

WOW 3.45% 1,795 12.68% 3.14% 132.60

WES 3.02% 2604 -5.65% 3.88% 230.20

MTS 2.31% (147) -184.46% -1.01% (15.30)

The performance of Woolworths Ltd will be analyzed based on 30 June 2018 annual report with comparing with other food and staples companies, which operate within the same industry as Woolworths Ltd, which are Wesfarmers (WES) and Metcash Limited (MTS).

As the chart shown above, the WOW had high profit than MTS and less than WES. Moreover, Income growth of WOW is the highest compared to other companies as WOW is in the first place. As mentioned previously, WES had a higher profit than WOW but revenue growth for WOW is higher than WES by 0.43% and 1.14% higher than MTS. Which means that WOW has more potential growth in profit than other companies in the same industry. Besides, WOW is the only company who had an increase in net profit among three companies in the industry. MTS had a significant decrease in their profit which lead to loss and WES had 5.65% less profit compares to previous, WOW increased profit by 12.68%. Higher profit margin could leaded to higher net profit change as WOW succeeded to transfer 3.14% revenue to its net profit, which reveals that WOW was the second strongest company in the industry. Well Performance of WOW resulted in 132.60 cents earnings per share (EPS), which indicate that the WOW was able to generate a second higher return for its shareholders in comparison with other companies exist in the industry.

In overall, WOW’s had good performance not only by itself but also compare to market.

WOW, performance was better than a previous financial year and its performance compared to other companies was competitive as WOW had first or second place in all indicator from the chart above.

2.3 Comparison of Financial Statement Presentation (NAB & WOW)

Compare how a financial statement was presented by NAB and WOW to better understand their financial report. According to AASB 101, NAB and WOW followed the regulatory standard well in term of presentation of their financial statement. The difference between NAB and WOW financial statement is that NAB’s financial statement does not present its statement as a consolidated statement and includes two separate statements in terms of bank and group. By contrast, WOW presents its financial statement as a consolidated statement and did not separate itself with the group. From AASB 101 paragraph ‘an entity may include additional headings and subtotals in the financial statement, which may be relevant to understand the entity’s financial position, however it is not mandatory for the entity’ . By checking two companies’ financial statement, able to notice that WOW has additional heading such as current and non-current asset in balance sheet while NAB has not additional heading which makes hard to understand the specific transaction categories of the company.

NAB and WOW had a different format of the financial statement but both companies achieved a fair presentation of the financial statement by including additional disclosures which is required by Australian Accounting Standard board.

3. Key Business & Inherent Risk

3.1 Inherit Risk

‘Inherent risk’ assumes no internal controls involved, it is a risk that the account balance or transaction type is easily distorted so that the distortion of the account balance or transaction type becomes important alone or in combination with the distortion statement of other account balances or transaction types . As such, the inherent risks create the potential for companies to make losses based on the business characteristics of the organization without changing the existing environment. To mitigate the impact of inherent risks, businesses can use control systems that have more than one precisely targeted goal. However, the effects of too much control can reduce the effectiveness of the organization, so executives must consider the benefits of reducing risk as more control over the business.

3.1 Banking Industry

The key business in Banking Industry can be loans, stock broking commission, funds management and insurance. Banking industry is subject to a variety of inherent risks that can affect the group’s strategic and financial prospects. Successful banking firms can first mitigate risks and continue to generate revenue by accurately identifying the types of risks, their causes and the extent of their damage. The main types of risks faced by all banking businesses are:

First of all, Credit risk is a one of major inherent risk in the industry. It refers to the risk that the banks provide a loan to a transaction partner or can occur when the counterparty’s credit rating decreases or bankruptcy occurs after purchasing counterparty’s bond. In other words, the risk of loss due to deterioration of the counterparty’s management status, credit loss, or financial default may mean that financial institutions expect cash flows from their loan assets or securities to not be recovered . Normally, bank profitability is very sensitive to credit risk, so a slight increase in credit risk has a risk of negative consequences for bank profits.

Furthermore, Banking industry face market risk in various form. The market risk defines market prices as the risk of banking book losses due to changes in stock trading prices, interest rates, credit spreads, foreign exchange rates, commodity prices and other indicators set by the open market . For example, if a bank has a large share, it may be exposed to capital risk, and if it does not have enough foreign currency, it may not be prepared for foreign exchange risk.

Finally, most of banks are likely to be influenced by the liquidity risk which refers to the risk that one side of the transaction will adversely affect the other’s financing plan due to the temporary shortage of funds and failing to fulfill the payment obligation at the time of settlement .

3.3 Food and Staples Retailing Industry

The key business in food and stapes industry can be food distributors, food retail, alcohol retail and super markets. There are inherent risks of the general nature of the retail industry that can threaten the company’s operational and financial performance. Firstly, it is important to identify competitors in the same industry. Competition has some impact on how firm promote and price their products or services to customer. Without a comparison with competitors, firms may have trouble to decide on a particular product or service that firms want to promote, which make a difficult to secure company’s position in the market.

Also, the key to success in any retail business is the ability of the customer to predict what product or service to buy. For a retailer to be profitable, it is important to know exactly what customers want and need.

Finally, complying with proper laws and legislation are important to the ongoing growth and profitability as well as reputation of the corporation . If contracts and licenses of business are not properly maintained, there is a risk that the business will be closed or financially damaged and even legally punished.

4. Audit Strategies & Audit Test

Based on the key business and the inherent risk in these two industries, this section will introduce the audit strategies and audit test undertaken in NAB and WOW respectively. According to (AASB 1055, 2013), the preliminary auditing strategy is required at the beginning of the audit process. It refers to the preliminary judgment on the auditing method used in an organisation, that is, according to the scope of audit determined by the audit plan, choose which audit strategy and test can be implemented to achieve the auditing purpose more effectively. It is stated that under the preliminary auditing strategy, skill exists when choosing the appropriate audit test type . Usually, the audit needs to conduct a compliance test first to evaluate the internal control risk within a target organisation. There are two situations of course, if the results of compliance test show there are mature internal regulations for penalties, and the company strictly enforces them thus, obtains relatively low internal control risks, so auditors can audit based on company internal reporting data without additional calculations, modeling, and statistical testing. This kind of test is suitable for organisations with low internal control risk, which can effectively reduce audit costs and time; However, in most cases, good compliance test results (low internal risk of the organization) are not sufficient to prove that the financial situation disclosure is not materially wrong, so substantive testing is introduced which is significant necessary. Substantial testing is about re-calculation and review financial reports, profit and loss statements, invoices and other materials to determine if it is appropriate based on key assertion. This approach requires a high degree of coordination between the auditor and the organisation, which is time-consuming and costly. However, it has a relatively low risk of inspection and more conducive for fair audit judgment.

Regarding audit strategy and test, both NAB and WOW choose substantial testing as the main method, and a few will only stop when they meet the compliance test. This kind of audit test doesn’t mean the high internal control in NAB and WOW, but to make sure the low audit risk overall. Audit risk consists of three parts which are an inherent risk, internal control risk and inspection risk . Moreover, the work scopes chosen by audit service companies usually own a high inherent risk which can be called key audit matters. These matters can significantly impact the financial situation thus are chosen to be audited. We already know that inspection risk is the only composition that can be controlled and reduced by auditors’ operations (if the audit task is done with fair and objective), at the same time, substantial testing can reduce inspection risk by extensive data and report re-calculations. Therefore, to reduce the overall audit risk, it is meaningful to conduct substantial testing further.

5. Comparison of Audit Report

5.1 Auditors

Both companies adopt Independent Audits conducted by third parties. The auditing task of NAB in 2018 is undertaken by Ernst & Young(EY), which is one of the big four in the accounting service industry. This represents the reliability and authenticity of NAB’s Audit Report to some extent. While the auditors who service for WOW come from Deloitte, another major accounting service company has the same status as Ernst & Young. It is said that both NAB and WOW emphasise the importance of external audit to the organisations when it comes to the financial situation. External auditing is an important and systematic check on fraudulent and deceptive behavior within the company, and therefore, plays an important role in encouraging honesty: because knowing that external auditing is inevitable, companies will try to avoid doing those disgraceful things that can be discovered. According to the good reputation and professional recognition of these two auditing service institute, we have reason to believe that the auditors who implement the audit tasks are with great professionalism and can perform it nicely.

5.2 Audit Opinion of Two Companies

The audit opinion means the auditor expresses on if the audited object meets the assertion criteria after the auditor completes his task . For the audit of financial statements, the audit opinion states whether the financial statements have been prepared by the applicable accounting standards and whether they are fair in all material aspects, including financial status, operating results, and cash flow. Based on the audit report of NAB and WOW in 2018, both present the standard unqualified opinion. This opinion means the auditors believe that the financial statements prepared by the directors are following the applicable accounting standards and the companies’ operating results and cash flows are fairly reflected in all material aspects. Analysing the audit reports of NAB and WOW, we see each has its own defect.

6. Limitation of Audit Report

Analysing the audit reports of NAB and WOW, we see each has its own defect. The NAB audit report can suffer insufficient substantive analysis in some key audit matters such as in ‘conduct risk and provisions’ and ‘IT systems and controls over financial reporting’. When addressing the key matters, auditors from EY only adopt a compliance testing method including spot inquiry, observation, and report review. This potentially increases the audit risk and may affect the audit opinion to some extent.

When looking at the WOW audit report, Deloitte auditors only recognise three key audit matters which are not enough for this kind of retail enterprise. They are respectively ‘Valuation of BIG W property’, ‘Accounting for rebates’ and ‘IT Systems future events or conditions’. Considering the WOW’s industry characteristics, the existence occur as well as the completeness of inventory is one of the key audit matters that has been missing at least. In order to realise the audit objects, auditors’ responsibility is essential to keep in mind to auditors.

7. Auditors Responsibility

In order to realise the audit objects, auditors’ responsibility is essential to keep in mind to auditors. On one hand, auditors should improve the professional abilities which refer to skills and knowledge. The reason is the accounting standards, audits legislation as well as company law may change over time. Timely master the theoretical changes is necessary when implementing auditing tasks . Auditors have the responsibility to self-learn about audit skills. Theoretical knowledge is not sufficient to identify and solve problems in actual operations, and auditors should consciously accumulate experience. On the other hand, auditors should always pay attention to ethical issues such as accept gifts from target auditing company or have a close relationship with executives of customers company . These ethical issues are always attractive to make huge mistakes and affect the audit opinion.

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