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CASE STUDY: FINANCIAL STATEMENT ANALYSIS AND FINANCIAL DISTRESS PREDICTION

Maurice Blackburn Lawyers has been approached by a number of disgruntled shareholders of DSHE Holdings Limited (previously named Dick Smith Holdings Limited until June 2016, and popularly known as the Dick Smith Electronics business) looking to form a class action to commence legal proceedings against the directors of DSHE Holdings Limited and the company auditors, Deloitte Australia (Australian partnership of Deloitte Touche Tohmatsu). The potential class action claim against the directors of DSHE Holdings Limited is centred on incompetent and fraudulent management, failure to inform shareholders and the market earlier about inventory, cash resources and financing issues impacting on the going concern likelihood of the company, and the resulting entry of the company into voluntary administration. The related allegation is that Deloitte Australia, as the company's auditor, failed to identify the development of these operating and financial issues as part of the auditing of Dick Smith Holdings Limited's 2015 financial statements and issued a clean, unqualified audit opinion rather than a qualified or adverse opinion that would likely have been forthcoming had such issues and associated internal control weaknesses been realised.

The Dick Smith business has been in operation in various forms since the late 1960s. The business was created in 1968 by the well-known Australian entrepreneur, Dick Smith, and his wife, with an initial capital investment of just $610, and focused on selling car radios and electronic components. The business later branched out into computers and other electronic equipment, including telephone and television products. In 1982, the business was rationalised and sold to Woolworths Limited, which invested substantially in further developed the retail chain of Dick Smith Electronics stores. Woolworths Limited operated the business relatively successfully for approximately 30 years, until they sold the business to the Australian-based Anchorage Capital Partners private equity firm in 2012. After paying $115 million to purchase the business (but effectively only $20 million in cash) from Woolworths Limited, the private equity firm conducted a public listing of the Dick Smith Electronics business (named initially as Dick Smith Holdings Limited, and most recently DSHE Holdings Limited) on the Australian Securities Exchange (ASX) in December 2013, with the business valued at the time of public listing at approximately $520 million. On January 4th 2014, Dick Smith Holdings Limited released an announcement on the ASX that, due to cash flow problems and lack of ongoing funding support from its capital providers and Banking Syndicate, the company has been placed into voluntary administration. Following the inability of the appointed receiver and manager, Ferrier Hodgson, to suitably restructure the business or find an alternative buyer, the decision was made to liquidate the company and close all of the Dick Smith Electronics store, with the company suspended from official quotation on the ASX on August 23rd 2016.

Maurice Blackburn Lawyers has requested your accounting and consulting firm to conduct an investigative and forensic assessment of the Dick Smith Holdings Limited business and provide a report and analysis to aid in their final decision-making as to whether a class action lawsuit is likely to be successful. The brief provided to your firm is that the report should include the following:

- An overall financial statement analysis of the Dick Smith Holdings Limited business, with particular focus on trends and changes in the inventory, working capital, cash and financing aspects of the company's operations.

- An assessment of the financial health of the company using recognised financial distress (bankruptcy) prediction models

- An examination and reporting on relevant information releases, and any other documentation, by the company about their operating activities and going concern status.

- Based on the above analysis, an overall recommendation as to whether there is potential basis for a claim against the Dick Smith Holdings Limited directors and senior management and/or the company's audit firm, Deloitte Australia.

Required:

This case study report is due to be submitted to the Managing Partners of Maurice Blackburn Lawyers by 5.00pm on Monday 3rd October 2016, via the FIN3CSF LMS site.

This case study contributes 15% to the overall final assessment in the FIN3CSF subject. This case study is to be completely individually, and the maximum word limit, excluding calculations and financial analysis reporting, is 1,000 words.Case Studies in Finance (FIN3CSF) - Semester 2, 2016

Tutorial (Case Study 4 - Financial Statement Analysis and Financial Distress Prediction)

This case study is focused on conducting financial statement analysis and financial distress prediction relating to the recent liquidation of Dick Smith Holdings Limited. This is very topical as they were removed from official quotation on the ASX very recently, and there has been quite a bit of media reporting around this corporate failure.

The case study requires you to do the following:
- Conduct an analysis of the Dick Smith Holdings Limited financial statements using a range of techniques to identify the underlying operating situation of the company and any potential likely explanations for the company's failure.
- Use of financial distress prediction models and techniques to determine whether the financial statement information may provide early warning signs or indications of the company's impending failure
- Identification of any other information or data which is informative regarding the operating situation of the company, or may provide signals of the company's failure.
- A recommendation, based on your analysis, whether there is any information or other compelling evidence or significant problems with the company which should have been identified and/or reported by the company's management or auditors prior to when the firm's financial distress was announced to the market.

Note that this is an individual case study, so independent work is expected to be completed on this case study
- Substantial quantitative component involved, with the written component only relating to the assessment of the financial statement analysis and distress prediction activities and the overall conclusion about whether there is any strong evidence supporting a potential lawsuit class action

A good starting point is to think about the company that you are analysing:
- What is its main business activity, underlying strategy, operating history?
- Main drivers of activity and operating outcomes
- Existence of sources of competitive advantage
- Lifecycle position, industry competitive structure, business analysis

Financial statement analysis

Want you to conduct some financial statement analysis using the sorts of methods that I discussed in the lecture class last week:

- Trend analysis and common-size statements

- Financial ratio analysis

- Only have financial statement information available from 2013 (for balance sheet) and 2014 (for all financial statements), so the degree of time-series analysis you can do is limited

- Think about the nature of the business and what forms of analysis, and particularly what financial statements and financial ratios, are likely to be particularly informative about the company's operating and financial status.

- All of the information required for the various analyses, and particularly for the ratio analysis, is available either in the annual report documents or the DatAnalysis spreadsheet file.

- Important to focus on both individual observations and, particularly, linkages between multiple sources of information or analysis outcomes across the statements. Also, whether you can develop patterns or trends within the data which are indicative of a certain management decision, action or policy.

Financial distress prediction

Want you to use some of the well-known financial distress prediction models outlined and apply them to assessing the bankruptcy or distress risk of Dick Smith Holdings Limited
- Models discussed in the lecture included the Altman (1968), Springate (1978), Ohlson (1980), Zmijewski (1984) models.
- Might want to think about which models might be more relevant to a company such as Dick Smith Holdings Limited
- Compares results and conclusions across models Other Analysis and Relevant Information

There could also be a range of additional sources of information that could provide information about the activity or performance of the company and/or warning signs about the company's underlying financial position

- Other annual report information, such as the company summary content, CEO report, Chairperson report
- Announcements on the ASX by the company
- Comparable firm performance, activity or decision-making
- Trading activity by major shareholders, such as institutional investors
- Actions of insiders, such as the CEO and directors
- Media or other financial market reporting

Attachment:- Dick Smith Holdings - financial data spreadsheet.xlsx