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Downer dabbles in accounts window-dressing
June 30, 2010

IT GOES without saying that Downer EDI's balance sheet and cash-flow statement will receive greater-than-usual scrutiny when the engineering group lodges its 2010 accounts in August.

This has been assured after an email leaked to BusinessDay revealed the company is taking aggressive actions in a bid to massage its year-end cash balance to the tune of $35 million. The tactics involve deferring a ''significant'' number of client payments, together with efforts to accelerate debt collections.

The significance of this window-dressing attracted attention yesterday morning, sending the company's share price down 27 to a 12-month low of $3.72, even before the company's bungled attempts at an explanation.

Downer first denied deferring payments to suppliers, reversing the position shortly after 11am with ''additional clarification'' that cash management in its Works division included ''a proposal to manage creditor payments''.

Now, careful management of the cash balance around year-end is rarely a hanging offence and Downer is not alone among big Australian corporates in seeking to show the end-of-year balance sheet, and cash-flow statement, in the best possible light. What is significant about this matter is the materiality of the cash-flow impact.

In 2009, Downer generated operating cash flow, after capital expenditure but before dividends, of $69.8 million. The extent of cash-flow statement window-dressing last year has not been confirmed, but it highlights the significance of a $35 million swing. Even after tarting up the books, it seems Downer effectively had to borrow money to fund its dividend last year of $72.1 million, which modestly exceeded operating cash flow.


Supervision stance?

NOTABLY, Downer EDI chairman Peter Jollie is a member of the board of ASX Supervision.

This august group is a subsidiary of the ASX, whose functions include ''monitoring compliance with the rules, investigating apparent breaches and then taking disciplinary action''. The ASX website does not indicate whether ASX Supervision has a policy stance on the acceptable level of window-dressing of annual accounts by listed companies.


And the downside risk

INVESTOR sentiment towards Downer was also hit by a target price downgrade from Goldman Sachs JBWere. The broker has maintained a ''hold'' recommendation while cutting its target price from $6.26 to $5 as increasing weight is given to downside risks hanging over the company.

One of three major areas of concern is the possibility further provisions will be required on Sydney's Waratah train contract, with a blowout of carriage construction costs a key risk.

These costs would originally have been fixed in a back-to-back contract with Changchun Railway Vehicles Co, reducing Downer's risk exposure to this $700 million component of the project.

But Goldman is concerned the back-to-back contract may have been voided by the 19,000 subsequent design changes.

Downer has already admitted some of back-to-back contracts on Waratah have fallen over due to changes in specification. In addition to carriages, contracts for doors, brakes and air conditioners could be at risk.

Goldman estimates suggest a further provision of similar size to the $190 million provision already taken could be required if Downer has to wear increased manufacturing costs.