Residential property development and financial ratio analysis: a South African perspective

Abstract

Financial statements are read, analysed and interpreted by a diverse group of interested parties, among whom are owners, directors and managers who read financial statements to utilise the information for planning and control purposes. It is imperative that they uncover underlying or evolving trends and/or other salient features in order to assess the business’ progress towards achieving its strategic goals (as determined through its planned objectives). Financial ratio analysis promises to be a simple but effective way of analysing financial statements for interpretation. It is, however, not a ‘complete’ method of analysis as it is directed at measuring financial objectives only. The ‘traditional’ method of analysis and interpretation of financial statements evolved over a period of approximately a century (mainly due to major developments in management concepts). Thereafter industrious researchers explored the possibility of effecting changes to these existing methods, formulae and uses of financial ratios to explore their predictive abilities. It was assumed to be an inherent attribute of ratio analysis. Although there is no real consensus, the conclusion is that failure-or-success-prediction-models suffer from poor predictive abilities. Therefore this study was directed at the principles of applying the ‘traditional’ approach to financial ratio analysis. The references to the ‘modern’ models, techniques and their applications are made for contextual purposes only. The aim of this study is twofold. The first aim is to determine whether residential property developers apply financial ratio analysis in analysing the financial information contained in their financial statements. Developers indicated that they do use ratio analysis for this purpose. The second aim is to illustrate how important the acquisition of knowledge and understanding of the basic principles and techniques of financial ratio analysis is to non-accountants (such as the average property developers and built environment professionals) in applying financial ratio analysis in their decision-making. Section 8 in this study serves as guideline to practitioners, based on results and conclusions of the empirical study of the article. There is no internationally accepted theoretical framework or standard for applying and using financial ratio analysis to assist managers in the assessment of business performance. This should not create the perception that ratios are merely an accumulation of tools and techniques. Each ratio is an integral link in a chain of financial ratios. Managers in the built environment should be encouraged to gain knowledge and apply financial management tools and techniques to enhance their financial management expertise. Non-financial managers and directors can no longer avoid financial management responsibilities by deferring these to the financial professionals. Rather, managers and directors need to adopt an attitude of the buck stops here.