Business Market Hypothesis For Functional Buckets: CFO Responsibilities At Crown Resorts

Statutory role

Describe about the Business Market Hypothesis for Functional Buckets.

The general areas of responsibility of a CFO can be divided into statutory and functional buckets mentioned below. The company chosen for understanding these responsibilities is Crown Resorts. Crown Resorts is listed in the Australian Stock Exchange with a current market capitalization of $ 9.5 bn. It has revenue of $ 3.5 bn and a profit of $ 450 mn for the year ended 30 June 2015. It is one of Australia’ largest entertainment groups with operations in Australia, UK, Asia and the US. It operates 3 properties in Sydney, Melbourne and Perth in Australia; 3 in Asia in Macau, Manila and one in London.

Under the statutory role, the role and responsibilities of a Chief Financial Officer (CFO) are governed by the stipulations in the Corporations Act of Australia. The roles and responsibilities are as below

The CFO has to provide a good financial management pioneering role for the company. Hence he has to be suitably qualified and experienced to qualify as a Chief Finance Officer who is a Key Managerial Person (KMP) of the organization. Hence he has to have the knowledge of maintaining excellent financial management systems and processes. He should know how to interpret, analyze and present financial and related information to tackle problems

He must endorse all financial data and information which is referred to the senior management of the company. He also has to certify the financial information given to statutory bodies, management groups and shareholders

He has to endorse the business plan for the needs of the management and other needs

Under Sec 295A of the Corporations Act, the CFO (along with CEO) has to declare that the financial statements of the company have been properly maintained as per Sec 296; such statements and the notes per Sec 195 (3) (b) in the financial report comply with the accounting standards set by Australian Accounting Standards Boards; the financials reflect a true and fair view of the affairs of the company as per Sec 297; other matters stipulated by regulations have been complied. Such declaration is in writing with the date, capacity and under the signature of the CFO. This responsibility is in line with statement b above.  (Austlii.edu.au, 2016)

In Crown Resorts Annual report for the year ended June 2015, Mr. Kenneth Barton the CFO of the company has specifically made these statements to the effect that the financial records have been maintained properly, the true and fair view reflection of the financial statements is complied with and for these there are adequate internal control procedures and risk management procedures which are operating well.

Functional Role

In addition, the CFO has a role to play in developing the business plan of the company. In the case of Crown Resorts, the CFO has played a role to develop the next 4 year financial plan which is a major input for remuneration of senior executives of the company

The Functional role of CFO includes

Raising money- This is required for effective working capital management and liquidity from the short term point of view. In the long term, the CFO has to raise money for important strategic objectives set by the Board of the company. This could be in debt or equity or a mix of both. Hence the optimum mix maintenance is also important so that the riskiness of the firm does not increase disproportionately. In Crown resorts, the company has a targeted spend of $ 645 mn for the completion of Crown Towers in Perth, Crown Sydney with a spend target of $ 2 bn, purchase of a new luxury hotel in Melbourne for $ 50 mn and entering into new areas like online gaming and wagering business. Kenneth, the CFO is responsible for raising this quantum which in Melbourne and Perth alone is $ 2.8 bn. In addition, working capital management is a key function which the CFO has to perform on an everyday basis. In the “Capital expenditure Commitments” for Crown resorts, there is an estimated spend of $ 314 mn for the next one year and an estimated spend of $ 96 mn payable after one year but before 5 years. This gives an indication of how the CFO has to plan for raising these resources keeping in mind the timing, the pricing, the expectations of the various stakeholders

Allocation of money and risk management– this is an important function of the CFO who is responsible for capital budgeting in sync with project planning. As mentioned earlier, the spend of $ 2.8 bn in 2 cities in Australia is a long term project spread across FY 11 to FY 18, a 7 year period. The CFO has to ensure that the funds are available at requirement. This is coupled with another important responsibility that project do not have overruns which will in turn lead to deficits, incomplete project , escalations in cost and financial indiscipline. This has to be answered to the shareholders.

In addition, various economic risk management measures have to be taken by Crown resorts which in turn are the primary responsibility of the CFO.  The Company has investments in various listed and unlisted shares in which surplus money is parked. The CFO has to manage the risk of these $ 3 mn investments on an everyday basis. He is also responsible for credit risk where the company is exposed to potential default risk of the counterparty. The CFO has invested money in investment grade instruments alone thereby minimizing the risk. Receivables of the company from customers have been derisked by undertaking appropriate credit risk assessment procedures under the leadership of Mr. Kenneth CFO. Since the company has to maintain a delicate balance of continuous funding for the huge capex plans coupled with a flexible cash management policy, the CFO has arranged committed bank lines of $ 190 mn and capital market debt to meet the financial commitments with a cushion of undrawn limits of $1500 mn from the banks when the need arises. Thus he has managed to plan for a long drawn fund requirement on time.

Raising money

Understanding of shareholder requirements of economic return – The owners of the company is the shareholders and hence expects return for their equity investment. Since the securities are traded in a stock exchange and equity is raised in capital markets, a CFO needs to have a good understanding of capital markets. This also includes balancing the return expectation of the shareholders and the retention of money for growth in the company. This will in turn translate into a dividend policy and an earnings achievement tradeoff. In Crown Resorts, the CFO in consultation with the Board has developed a consistent dividend policy. In the year 2015, the company has paid interim and final dividend aggregating to 37 cents per share translating into a payout of $ 270 mn. The share price of the company has also shown a doubling effect from $ 7.77 in 30 June 2011 to $ 15.12 at 30 June 2015 due to growth and efficient financial management (Managementstudyguide.com, 2016)

If the efficient market hypothesis is true, then the fund manager and select the portfolio with a pin. This statement is not true in the strictest sense. Let us start with analyzing what is efficient market hypothesis. The EMH states that it is not possible to generate superior returns or alpha in the market since the market always reflects all information at any instance of tie. In short, it says that it is always impossible to beat the market because the market is so efficient in absorbing and reflecting all information. Thus it sees that as per the EH, stock will always be pried at fair value without any possibility of identifying and investing in undervalued stocks or selling stocks at higher prices. Thus stock selection and timing have no meaning in the EMH theory and the only way to make money is through increasing risk. Thus EMH reduces the stock market investments into a mechanical exercise where everyone earns the same return irrespective of his stock selection.  This is not possible nor is it visible in the real world where fund managers through their analysis and experience are able to generate alphas without increasing risk. As per EMH, increased risk will provide a probability to generate increased return. If that was the case, there would not be a Warren Buffet who consistently beats the S&P index return through his discipline of stock selection and investments across time horizons.  In addition, as a counter to EMH theory, there should not have been events like 1987 stock crash when the DOW fell by 20% in a single day or the recession linked collapse of Lehman Brothers, Bear Sterns, and AIG etc who became bankrupt due to risky investments. These risky investments should have generated higher returns and not led to a collapse of these firms. (Anon, 2016)

The proponents on the EMH theory believe that due to randomness and perfect competition in the world, there is a cap on the return of the investors and they may be better off settling for mediocre returns. To an extent, this is evident as well since a substantial majority of the investors are not able to generate the alphas. But this is a shortcoming of the investor methods and discipline since there are some who are able to achieve alphas consistently. (Econlib.org, 2016)

The responsibilities of a fund manager include generating maximum return with minimum risk. Risk can be minimized by diversification. However, maintaining diversification to minimize risk may not be in sync with maximizing returns. Risk diversification also does not mean that the stocks in the portfolio can be chosen by throwing darts and choosing them with thought or analysis. This is because in the market, there are defensive stocks with low beta and elastic stocks with high and hyper beta. In case stocks are chosen without proper consideration to the industry in which they fall or without understanding of their dynamics, the aim of diversification and minimizing risk may not happen. It will become a dumb exercise with a possibility of increased risk. This will also have an impact on the return. On the other hand, if the return becomes the sole objective, then disproportionate funds will have little high return stock thereby increasing risk disproportionately. A fund manager has to remember that risk and return optimization is the objective and hence choosing one over the other or creating an imbalance in either is not going to help achieve the objectives (Investopedia, 2003)

References

Anon, (2016). [online] Available at: https://www.morningstar.com/…/efficient_market_hypothesis_definition_what_is.aspx [Accessed 19 Sep. 2016].

Austlii.edu.au. (2016). CORPORATIONS ACT 2001 – SECT 295ADeclaration in relation to listed entity’s financial statements by chief executive officer and chief financial officer. [online] Available at: https://www.austlii.edu.au/au/legis/cth/consol_act/ca2001172/s295a.html [Accessed 19 Sep. 2016].

Econlib.org. (2016). Efficient Capital Markets: The Concise Encyclopedia of Economics | Library of Economics and Liberty. [online] Available at: https://www.econlib.org/library/Enc/EfficientCapitalMarkets.html [Accessed 19 Sep. 2016].

Investopedia. (2003). Efficient Market Hypothesis – EMH. [online] Available at: https://www.investopedia.com/terms/e/efficientmarkethypothesis.asp [Accessed 19 Sep. 2016].

Managementstudyguide.com. (2016). Role of a Financial Manager. [online] Available at: https://www.managementstudyguide.com/role-of-financial-manager.htm [Accessed 19 Sep. 2016].

Yahoo! Finance. (2016). Crown Resorts Limited. [online] Available at: https://in.finance.yahoo.com/q?s=CWN.AX [Accessed 19 Sep. 2016].