ORACLE CORPORATION: SHARE-BASED COMPENSATION EFFECTS/STATEMENT OF SHAREHOLDERS' EQUITY
A sales-based ranking of software companies provided by Yahoo! Finance on November 5, 2008, places Oracle Corporation third behind sales leaders Microsoft Corporation and IBM Software. Typical of high-tech companies in the software industry, Oracle Corporation uses share-based compensation plans extensively to motivate its employees. In Note 11 of its May 31, 2008 annual report, Oracle states that it settles employee stock options exercises primarily with newly issued common shares.
As indicated by the selected data from Oracle's May 31, 2008 Consolidated Balance Sheet in Exhibit 6.19, Oracle finances operations using substantially more common shareholder's equity than it does long-term debt. However, Oracle's long-term debt to shareholders' equity ratio of 44.5 percent is substantially larger than major U.S. competitor Microsoft Corporation and major foreign competitor SAP AG, both of which report almost no long-term financial debt. Exhibit 6.20 presents the most current year of the multiyear Consolidated Statement of Shareholders' Equity for Oracle. Exhibit 6.21 (see page 512) presents portions of financial statement notes 10 and 11 from Oracle's May 31, 2008 annual report.
Required:
a. Compute Oracle's long-term debt to shareholders' equity ratio for May 31, 2008 and 2007. Identify the increases in shareholders' equity in 2008 from share-based compensation plans. Calculate the long-term debt to shareholders' equity ratio that would have occurred had Oracle not implemented the stock repurchase plan. Comment on the potential effect on future ROE of Oracle's financing strategy.
b. Retained earnings increases because of net income and decreases because of dividends declared. Why, then, did Oracle decrease retained earnings when it repurchased common stock?
c. Of the first five changes listed in the shareholders' equity section, one of them, the common stock repurchase, clearly represents a cash outflow. Identify the cash flow effects of the other four items. Where will each cash flow effect be reported in the statement of cash flows?
d. Oracle engages in many transactions with non-owners (that is, customers, suppliers, and the government) that increase net assets. For example, Oracle's foreign sub- sidiaries perform services on credit with unrelated third-party customers. The accounts receivable generated by the transactions are denominated in a foreign cur- rency and thus are reported on the foreign subsidiaries balance sheet in that foreign currency. The consolidation process causes the subsidiary's accounts receivable to be added to the parent company's (Oracle's) accounts receivable and reported on Oracle's Consolidated Balance Sheet. Assuming that the foreign currency strengthens relative to the U.S. dollar, how does Oracle's Consolidated Statement of Shareholders' Equity capture the increases in accounts receivable described in this example transaction?
e. Using the foreign currency translation gain of $300 million as a context, present an argument for including the gain on Oracle's income statement and an argument for excluding the gain as Oracle does under GAAP.
f. Under Oracle's Employee Stock Purchase Plan, employees can purchase common shares at 95 percent of their fair values. Will Oracle report a loss on this transaction? Why or why not?
Text Book: Financial Reporting, Financial Statement Analysis and Valuation: A Strategic Perspective By James Wahlen, Stephen Baginski, Mark Bradshaw.