Publications
Partners
A strained market and weak economy may have driven the sugar producer to inflated income figures and subsequent forensic investigation
The way local sugar giant Tongaat Hulett dealt with its property development business could have a lot to do with the accounting controversy it currently finds itself in, experts say.
Last week, Tongaat’s joint listing on the JSE and the London Stock Exchange was voluntarily suspended at the request of its board – possibly until October – while a forensic investigation into its financials is carried out.
This came after the company failed to publish its latest financial results timeously.
Tongaat also had to inform investors that they could no longer depend on the reliability of last year’s financial statements, the interim statements or the company’s latest trading update.
The sugar producer is one of the most prominent property players in KwaZulu-Natal.
In fact, Tongaat’s property business activities have protected the business’ income amid enormous challenges in the sugar market caused by sociopolitical challenges and cheap sugar imports in southern Africa.
In its last financial statements, Tongaat’s property business constituted just 5% of group turnover, but made up 30% of operating profit across the whole group.
The group admitted that its previous income figures may have been inflated by between R3.5 billion and R4.5 billion.
Tongaat Hulett and its affiliates facilitated investments of more than R70 billion over the past 20 years.
It did so by developing about 4 000 hectares of agricultural land that was previously used for the cultivation of sugar cane.
In the past three years alone, the group spent R1.5 billion on infrastructure, according to information on the company’s website.
Some of the group’s most well-known developments include the luxurious Zimbali Resort on the KwaZulu-Natal north coast, the Mount Edgecombe Country Club Estate, La Lucia Ridge, the Canelands Industrial Park and office parks such as Riverhorse Valley and Millennium Bridge.
According to Neil Gopal, chief executive of the SA Property Owners Association, Tongaat Hulett “successfully packaged property for development and essentially developed markets where there weren’t any”.
Tongaat Hulett’s latest trading update in February said the group’s headline earnings per share for the year ending in March was expected to decline by 250%, from a positive 535c to a loss of more than 927c per share.
Against the background of a tough property market, the group had already warned last year that its operating profit would decrease by 64%, largely as a result of property transactions that had not come to fruition by September 30.
In February, the group informed the market that no property sales had taken place since the end of September.
“A thorough review of the property portfolio is under way,” it said in a statement.
The manner in which the development property has been valued and the manner in which property sales were reported in the group’s income figures are some of the issues PwC may be looking at in the forensic investigation currently under way.
Charl Kocks, of ratings agency Ratings Afrika and an expert in corporate governance, said if the market weakens the value of the property on the balance sheet should be adjusted accordingly.
The assumptions that the valuation is based on, such as the expected selling price, must be fair and reasonable.
He also pointed out that the property transactions that Tongaat Hulett was involved in were complicated.
The group mostly does the macro development and then sells development packages to other developers for residential, commercial or industrial centres.
Kocks said it was critical at what point in time the money a sale generated was recognised as income in a financial statement.
If the returns are recorded as income while certain qualifying factors are still uncertain, and the transaction later collapses, the income must be written back.
Kocks added that a lot of pressure can be brought to bear on professionals in companies, such as valuators and accountants, to depart from fundamental principles of valuation, which may lead to financial statements painting an inaccurate picture of a company’s financial affairs.
He said that’s what made it important for such professionals to be given protection within companies so that they are able to do their jobs properly.
Erwin Rode, a property expert, said the weakening South African economy hit Tongaat Hulett’s property development market quite badly.
He added that it was important for developers in such circumstances to temper their expectations about the future rate at which sales transactions would take place.
That should also be adjusted in the financial statements because the market value of a property portfolio is, in essence, the value of the expected future cash flow from the sale of the property.
Rode said the market value of development property was dependent on various approvals and rights which must be conferred by state departments and municipalities.
“A good valuator takes that into account,” he said.
A year ago, Tongaat’s shares traded at R80.24 per share on the JSE, but the share price had plunged to R13.21 by last Monday when the listing was suspended.
