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
ï
ï
ï
Intangible asset with an indefinite useful life is tested annually
ï
ï
ï
Goodwill allocated to (group of) CGU expected to benefit from the A&M and represents the lowest
management level
ï
ï
ï
(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. when there is an evidence that the Group will not be able to recover balances in full, the provision is made and recognized in 'Administrative expenses' in profit for the period.
Cash and cash equivalents
Cash and cash equivalents for cash flow purposes are held at fair value which equals the book value and includes cash in hand, cash at bank and bank overdrafts. 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
loans and overdrafts initially are recorded at fair value, after discount transaction costs. After initial recognition, any difference between the initial carrying amount and the redemption value and is recognized in profit of the period 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 usually are remeasured at fair value through loss or profit, except if the derivative is qualify for hedge accounting.
Cash flow hedges
Derivative financial instruments are categorized as cash flow hedges when the derivative financial instruments hedge the Group's exposure to variability in cash flows, that are either refer to a particular risk associated with a recognized asset or liability.
The Group has cross-currency swaps designated as cash flow hedges. These derivative financial instruments are used to reduce risk from potential movements in foreign exchange rates inherent in the cash flows.
To decrease the risk from potential movements in energy prices, the Group has energy price contracts which are designated as cash flow hedges.
The Group uses forward exchange contracts with financial institutions which are elected as cash flow hedges to decrease the risk from potential movements in foreign exchange rates. The gain or loss on any ineffective part of the hedge is immediately recognized the IS.
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.
