Starbucks Financial Analysis: Rules of Financial Reporting

Starbucks is a large multibillion-dollar company that is best known for their coffee. The organization opened its first store in 1971 in Seattle, Washington. As of April 26, 2018, there are 28,209 stores operating in over 70 countries worldwide. Since conception, the organization has evolved from a coffee company to a company that offers a variety of products. In the latest fiscal year, Starbucks had a revenue of $24.72 billion, which is an increase of 10.24% from 2017. Accounting “measures business activities, processes data into reports, and communicates the results to the decision makers”. Corporations can gauge their success on by utilizing accounting techniques. A horizontal analysis is defined by the percentage of change in financial statements between reporting periods, where a vertical analysis expresses items on a financial statement as a percentage of a specified base, being the 100% figure. Using the FY18 Annual Report on Form 10-K, this essay will make a Starbucks financial analysis by performing a horizontal and vertical analysis of the accounts receivable, asset acquisition, depreciation, amortization, and debt financing to interpret the financial data and reports of 2018 compared against 2017. The analysis will also consider some of the Generally Accepted Accounting Principles (GAAP) and other government regulations that require organizations transparency of their financial statements to the public. Analysis such as this can give Starbucks executives direction when making informed decisions and creating strategies for the organization.

Rules of Financial Reporting

GAAP, or Generally Accepted Accounting Principles, are strict set of rules for organizations to adhere to when preparing financial statements. GAAP works to keep organizations transparent with critical information. GAAP promotes a fair playing field by allowing certain information to be researched. GAAP gives investors that opportunity to analysis an organization financial strength making their financial statements readily available. This gives investors to make solid economic decisions when choosing which organization they want to invest in because all the financial information accessible.

Control Procedures

In the early 2000’s, there were two major scandals that changed the financial reporting world, Enron and WorldCom. It was then that organizations realized that there was a necessity to implement procedures to keep organizations and stakeholders protected against fraudulent acts. Congress took action by implementing SOX, Sarbanes-Oxley Act. In 2002, SOX mandated specific auditing procedures to assist in keeping organizations fair and open. The law carries a significant penalty if false or inaccurate financial statements are revealed. More importantly, the CEO is held accountable for any fraudulent information provided to investors or in the financial report.

As with other organizations, Starbucks implemented their internal control procedures to remain transparent. “Internal controls are the mechanisms, rules and procedures implemented by a company to ensure the integrity of financial and accounting information, promote accountability and prevent fraud”. One way to create an environment of internal procedures is a system of checks and balances. This system promotes keeping certain job function separate, so that another job function can “balance” out the procedures to prevent fraudulent acts and unintentional errors.

In the Starbucks 2018 10-K Fiscal Report, the company disclosed their control procedures on pg 90. The organizations internal control and procedures are as follows, “We maintain disclosure controls and procedures that are designed to ensure that material information required to be disclosed in our periodic reports filed or submitted under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.” The report also states that, “During the fourth quarter of fiscal 2018, we carried out an evaluation, under the supervision and with the participation of our management, including our chief executive officer and our chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act.” The report mentions being in the process of documenting and testing East China's internal controls over financial reporting and plan to incorporate East China in our evaluation of internal controls over financial reporting beginning in the first quarter of fiscal 2019.

The company also describes their internal controls as maintaining those detailed records, providing level set documentation of financial transactions and reporting and expenditures. The organization currently and previous employs Deloitte & Touche, an independent registered public accounting firm, to conduct the external audit to review their internal controls before final submission of financial reports. Deloitte stated that the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2018 , based on criteria established in Internal Control - Integrated Framework issued by COSO.

Segment Information

In organizations, each operating system of that organizations is classified by segments and each segment provides individual financial information. What this division and separation does is offer greater organization transparency. This is another form of a control procedure. Investors have the opportunity to research each segment individually to obtain knowledge about which aspects of the organization are financially successful.

According to the Starbucks 2018 10-K Fiscal Report, the company states four, reportable segments:

1. Americas, inclusive of the U.S., Canada, and Latin America;
2. China/Asia Pacific (“CAP”);
3. Europe, Middle East, and Africa (“EMEA”);
4. Channel Development”.

Revenues from our reportable segments and corporate and other as a percentage of total net revenues for fiscal 2018 were as follows: Americas (68%), CAP (18%), EMEA (4%), Channel Development (9%) and Corporate and Other (1%). According to the report, Americas segment is the most mature business and has achieved significant scale (2018). GAAP requires a segment to be reported if “a segment accounts for 10% of total revenues, 10% of total profits or 10% of total assets”. This means that although there are other segments, they are still within the infant stage.

Estimates and Assumptions

Under GAAP, organizations are required to provide a reporting of estimates and assumptions. GAAP requires “the use of estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent liabilities in the consolidated financial statements and accompanying notes”. GAAP also makes it a requirement for companies to utilize accrual base accounting as opposed to cash basis. This estimation improves accuracy as well as keeping information up to date. According the 10-k 2018, there were no significant changes in any of their estimates or assumptions, aside from those related to the decision to close certain company-operated stores in the U.S. and Canada, which had a material impact on the outcome of their impairment calculations. In following the guidelines of GAAP, Starbuck’s provides examples in their report as follows, “Examples include, but are not limited to, estimates for inventory reserves, asset and goodwill impairments, assumptions underlying self-insurance reserves, income from unredeemed stored value cards, stock-based compensation forfeiture rates, future asset retirement obligations and the potential outcome of future tax consequences of events that have been recognized in the financial statements.”

Investments and Fair Value

Reporting of investments and fair value offers another level of transparency for the organization’s financial reporting. Fair value accounting requires companies to measure and report certain liabilities and asses on an ongoing basis at an approximation at what would essentially be “fair market value” or exchange price that is expected to be received.

Starbuck’s states several methods of investments that are recorded as fair value in their 2018 report including trading securities, equity, and cost method investments. The 10-k report describes fair value in three levels. Level 1 is the carrying value of cash and cash equivalents. Level 2 is when there is no quoted price that is in the active market, they determine the fair value using readily observable data. Level 3, is when the organization reports that their fair values of assets and liabilities are measured on a non-recurring basis determines the fair value of auction rate securities using an internal valuation model. Property, plant and equipment would fall under the definition of Level 3.

Leases

According to Harrison, W. T., Horngren, C. T., & Thomas, W., there are four ways to classify whether a lease is a capital lease or not: “Does the lease transfer a title of the leased asset to the lessee at the end of the term? Does the lease contain a bargain purchase option? Is the lease term more than 75% of the estimated life of the asset? Is the present value more than 90% of the market value of the asset?” The lease must meet at least one of the criteria in order to be specified as an operating lease. Under GAAP guidelines, organizations are required to report on their leases. This offers investors the opportunity to view how much an organization is paying towards spaces that aren’t owned by the organization as well as what spaces the organization actually owns. Similar to the other guidelines of financial reporting, this adds another level of transparency for stakeholders and investors. All organizations are required to account for any lease that has been a liability or asset for over 1 year. The 10-k report states that Starbucks leases retail stores, roasting, distribution and warehouse facilities and office space for corporate administrative purposes under operating leases. Further, Starbucks recognizes amortization of their lease incentives, premiums, and rent expenses on a straight line basis beginning on the initial possession date.

Assessment of Financial Reporting

History has shown the importance of implementing strict regulation when come reporting financial information. Not only do the guidelines of GAAP keep financial reporting transparent, it adds clarity to the financial information overall. Starbuck’s organization has fulfilled all of the guidelines required under GAAP. They have done their due diligence in providing an assessment of their own internal controls as well as the segments, investment and fair value, and leases. They have employed a reputable organization to externally audit the organization to add an additional component of checks and balances.

References

• AccountingTools. (2018). Fair value accounting. Retrieved from https://www.accountingtools.com/articles/fair-value-accounting.html
• Accounting.com. (n.d.). Retrieved from https://www.accounting.com/resources/gaap/
• Harrison, W. T., Horngren, C. T., & Thomas, C. W. (2015). Financial accounting. Boston: Pearson.
• Investopedia. (2018). Internal Controls. Retrieved from Investopedia: https://www.investopedia.com/terms/i/internalcontrols.asp
• Starbucks Corporation. (2018). 2018 Form 10-k. Retrieved from https://s22.q4cdn.com/869488222/files/doc_financials/annual/2018/01/FY18-Starbucks-Form-10-K.pdf