SOLUTIONS TO CASE STUDIES CHAPTER 13 Case Study 13. 1 Telstra opts for David Thodey as replacement for Sol Trujillo 1. Why would the Telstra board appoint an internal candidate to the position of chief executive, rather than an external candidate? This question is a good opportunity for students to reflect on what constitutes ‘expertise’. On the surface of the facts, David Thodey may seem like an unusual choice given that his proposed management changes are unknown.
However, when the facts are considered in more detail, his selection might be more understandable given that he is likely to move quickly to end the acrimonious relationship that has developed between the company and the government. The article notes that Mr Thodey does not have a close relationship with key government ministers and has the political advantage of not being associated with his predecessors aggressive strategy against government. Why might David Thodey have been preferred to other internal candidates one of whom had finance experience and the second of whom had other telco industry experience?
As implied in the answer to question 1, having no association with government minister would be a decided advantage when it came to negotiating the proposed $43 billion national broadband network. Mr Thodey would bring a ‘fresh’ perspective to the situation at Telstra and would not be burdened by an association with its past history. An internal appointment might also be a source of inspiration to Telstra employees if he was to offer hope of a successful financial turnaround. The article reports that David Thodey had internal experience.
How might his skills set have changed during his time with Telstra and what might have been his main means of learning new skills? Early in his career, Mr Tilton’s skills would likely have been relatively narrow. However, as he rose through the ranks, higher positions would have brought with them more responsibility and a requirement to take a more strategic and ‘broad brush’ approach to his job. As CEO, it is very unlikely that he would be concerned with the minutiae of the day-to-day running of a firm (although this may be necessary to some extent in the case of turning around a firm in financial crisis).
Rather, he would be responsible for setting the broad strategy and direction of a company and overseeing its operations. As a result, his skills set would now be very different, with an emphasis on things like strategic management, planning and people management. Many of these skills he will have learnt on the job, either through direct experience or by being mentored (‘groomed’) by other managers. It is likely that he would also have developed some of these skills through formal professional development, such as an MBA or short courses.
Describe the complex environment in which Telstra is operating and identify the particular skills that the new chief executive might be able to use to influence that environment. Telstra is operating in a dynamic environment where it is facing enormous pressure from government to participate in the development of a national broadband network. It must balance this government strategy with the need to provide shareholders the best return on their investment and the public with an affordable and high quality service.
Telstra is a large organisation and its performance is closely scrutinised by investors and the general public. Its chief executive office must be able to balance government, public and shareholder pressure. This would require the CEO to have technical experience or be able to select experts in the area on whom he could rely. Further the CEO would require excellent negotiating skills and much patience as the discussion between the firm and government are likely to be protracted and at times acrimonious. Case Study 13. 2 Reporting season’s moment of truth 1.
If cash is the best measure of success, why have the accounting profession and regulators persevered with analysing debt-to-equity ratios? There is far less discretion as to the timing of disclosures under the cash flow model. Adoption of cash flow can distort earnings and reduce the capacity of management to smooth income. Arguably however, accrual accounting may allow investors to form unbiased or more informed judgements about the long-term prospects of a company, or accrual-accounting-based information cues may be better predictors of future cash flows than current cash flows.
The debt-to-equity ratio provides a different perspective that is still linked to cash flows. It considers the total level of debt compared to the total level of finance provided by equity and allows for an evaluation of the ability of the firm to service its level of debt. 2. What do the analysts mean by the term ‘nasty surprise’? A ‘nasty surprise’ is reported earnings or some other accounting measure that have not been anticipated (or fully anticipated) and have the potential to adversely affect the future cash flows or other aspects of the operations of a firm. . Why does the market so readily interpret a cash-flow problem as a sign that a company’s financial position might be deteriorating but was apparently prepared to focus on debt-to-equity ratios for a number of years? The literature indicates that the market is not ‘fooled’ by the debt-to-equity ratios – that the market adjusts in order to provide a measure of actual value. Markets can still be wrong (‘fooled’) in their assessments of companies of course — if there is fraud or unexpected risk.
Focussing on the debt-to-equity ratio might lead some to interpret a company as being an efficient manager of financing opportunities. However, cash flow analysis is also important as it provides an opportunity to assess whether a firm is able to adequately service escalating levels of debt. 4. The article refers to the need to ‘sort the wheat from the chaff’ by focusing on companies that are coping well. How are such judgements made? Expectations about good or bad investments are based on a range of factors including: ndustry trends and past performance current and expected factors impacting on the industry and the individual firms statements made by the firm about expected performance media commentary past performance of the firm independent evaluations by analysts statements by the ASX. Research has the potential to help us understand the process and information cues by which these expectations are formed (at least at the level of individual investors).