Information and control are key issues in finance.
Investors need information:
- to make investment decisions
- to track the progress of their investments
- to monitor the risks and returns of alternative investments.
One way in which a business communicates information to the outside world is through its annual report and accounts. Let us look at the annual report and accounts of Lonmin plc.
Lonmin plc is the world’s third largest producer of platinum. The company is listed on the London and Johannesburg stock exchanges. See.
Activity 4: Lonmin plc: financing and wealth creation
Go to p. 90 of Lonmin plc’s 2009 annual report and see who the annual report and accounts are prepared for.
The audit report highlights that the annual accounts are prepared for the owners, the shareholders (‘the company’s members’), who funded Lonmin plc initially. The finance providers for public limited companies, such as Lonmin plc, are, in the first instance, the shareholders.
Activity 5: Reviewing the balance sheet
Review the balance statement of financial position (or balance sheet) on p. 93 of their annual report and accounts and identify the external sources of finance used by Lonmin plc. Remember that a liability on the balance sheet is a source of funding.
Lonmin plc has three sources of external finance on its balance sheet:
- equity (capital and reserves)
- debt (interest bearing loans and borrowings, both current and non-current)
- trade payables (non-interest bearing loans in trade and other payables).
We now look at each of these in turn.
The majority of external financing here is equity. If you have studied finance before, you may remember that share premium (in ‘capital and reserves’ section of the balance sheet) indicates that new shares in Lonmin plc have been offered, and issued, to investors after the date of incorporation, at which time the original share capital would have been contributed by investors, the original members of the company.
Go to note 26 (p.122) for more details about the share capital and note 29 (p.126) for details of the rights issue.
In a rights issue, shares are offered to existing shareholders at a (slightly) lower share price than the current market share price. The existing shareholders have the ‘right’ to take up the offer or sell it on to another investor.
One of the advantages of being funded by members or shareholders is the opportunity to raise additional finance in this way.
Debt funding here is straightforward. Lonmin plc has a number of bank loans. See note 22c (p. 117) for repayment dates and the associated liquidity risk.
The trade payables are a cheap (non-interest bearing) form of financing.
Buying goods on credit is a good way to use your suppliers’ goodwill to fund your business, particularly to support your own payments to trade debtors.
The other liabilities on the balance sheet (long term and short term) are the result of accounting adjustments that represent future quantifiable payments. These are delayed payments and not a long term source of finance.