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Financial management practices in successful Small and Medium Enterprises (SMEs)

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p>Although the success of small, medium and micro enterprises (SMEs) is extremely important for the South African economy, their failure rate is amongst the highest in the world; some researchers estimate as high as 90 percent. Research has shown that the lack of financial management skills and application of financial management practices are some of the biggest factors contributing to SME failure. However, it is not clear from the literature which of these skills and practices are more important than others. This study aims to fill this gap by determining which financial management skills are relevant for successful SMEs. A survey was done on a sample of owner-managers of successful SMEs who had been asked, firstly, whether they performed different financial management practices and, secondly, how frequently they performed these in their companies. The study concludes that practices regarding working capital as well as profitability are much more relevant than those regarding a balance sheet or strategic finance. Similarly, financial practices related to cash flow and decision making are more relevant than those related to planning or analysing. It may be true, due to the high risk and volatile environment of SMEs, as well as the challenges that are often underestimated, that financial practices which academics regard as important are not always implemented by these companies. This study contributes to the existing body of knowledge as it determines the relative relevance and frequency of use of financial management practices by successful SMEs. KEY WORDS Small and medium enterprises, Financial management practices, Successful SMEs, Entrepreneurship education</p
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FINANCIAL MANAGEMENT PRACTICES IN SUCCESSFUL SMALL AND
MEDIUM ENTERPRISES (SMEs)
Hendrik Wolmarans
hendrik.wolmarans@up.ac.za
Quentin Meintjes
qmcape@gmail.com
University of Pretoria
ABSTRACT
Although the success of small, medium and micro enterprises (SMEs) is extremely
important for the South African economy, their failure rate is amongst the highest in
the world; some researchers estimate as high as 90 percent. Research has shown
that the lack of financial management skills and application of financial management
practices are some of the biggest factors contributing to SME failure. However, it is
not clear from the literature which of these skills and practices are more important
than others. This study aims to fill this gap by determining which financial
management skills are relevant for successful SMEs. A survey was done on a
sample of owner-managers of successful SMEs who had been asked, firstly,
whether they performed different financial management practices and, secondly,
how frequently they performed these in their companies. The study concludes that
practices regarding working capital as well as profitability are much more relevant
than those regarding a balance sheet or strategic finance. Similarly, financial
practices related to cash flow and decision making are more relevant than those
related to planning or analysing. It may be true, due to the high risk and volatile
environment of SMEs, as well as the challenges that are often underestimated, that
financial practices which academics regard as important are not always implemented
by these companies. This study contributes to the existing body of knowledge as it
determines the relative relevance and frequency of use of financial management
practices by successful SMEs.
KEY WORDS
Small and medium enterprises, Financial management practices, Successful SMEs,
Entrepreneurship education
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INTRODUCTION
Various studies have identified the performance of a country’s SME sector as a good
indicator of its overall vitality and future prospects (Xesha, Iwu & Slabbert, 2014:37).
Small businesses are globally regarded as being important for the income, growth
and prosperity of individuals, the community and the economy (Badenhorst-Weiss &
Cilliers, 2014:2; Nkosi, Bounds & Goldman, 2013:1). In the European Union, SMEs
are even seen as the engine for societal development, as apart from the obvious
contributions they make toward the gross domestic product (GDP), they are, inter
alia, a source of employment and training for the youth (Nkosi, Bounds & Goldman,
2013:1).
The activities of the SME sector in Africa are crucial for promoting economic growth,
job creation and poverty alleviation (Rogerson, 2001a:267), while the small business
sector is often seen as the incubator of employment, innovation and growth (Carter &
Van Auken, 2006:493). Steyn and Leonard (2012:24) even see SMEs as the driving
force of any economy. However, in spite of various incentives, training programmes
and research by academics, Olawale and Smit (2010:1790) estimate that as many
as 75 percent of South African SMEs eventually fail. Some researchers even
estimate this failure rate to be as high as 90 per cent (Radipere & Van Scheers,
2005:402, Pretorius, 2009:1). This failure rate is one of the highest in the world. As a
comparison the average failure rate for SMEs in 21 European countries in 2010 was
only 35 percent (Marzocchi, Ramlogan & Gagliardi 2013:23).
There is consensus amongst experts that financial management skills are some of
the key components in the skills mix for SMEs to be successful (Bloom &
Boessenkool, 2002:244, Roodt, 2005:18, Kotze & Smit, 2008:35, Akande, 2011:372,
Bezuidenhout & Nenungwe, 2012:11658). If an SME is not managed well from a
financial management point of view, it cannot survive over the medium- to long–term.
However, what is not yet clear from the literature is which specific financial
management practices are more important in successful SMEs. Which of the
numerous financial management skills have the owner-managers of successful
SMEs found to be most useful? Which of the financial management practices do
they use most frequently?
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This study seeks to answer these questions. This knowledge could be important not
only for existing and nascent (aspiring) entrepreneurs, but also for educators of
future owner-managers of small firms. In enhancing the ways in which financial
management knowledge can be utilised in practice by owner-managers of SMEs, the
results of this study can also contribute to the enhancement of the success of SMEs
in South Africa. The aim of this study is to determine the relative relevance to and
frequency of use of specific financial management practices as performed by the
owner-managers of successful SMEs in the Western Cape.
A survey was done on the owner-managers of 30 successful SMEs in the Western
Cape. The results indicate that the financial management practices that SME owner-
managers regard as relevant and are performed more than once a quarter, tend to
focus more on working capital and profitability than on the balance sheet or strategic
finance. Similarly, practices related to cash flow and decision-making are regarded
as more valuable than those related to planning or analysing. The layout of this
article is as follows: the literature review is followed by a discussion on what makes
an SME successful. Specific financial management practices are then linked to
financial management skills. Next, a profile of the Western Cape is given, followed
by the hypotheses and research methodology. The results then follow, where-after
conclusions and recommendations are made and possible future research areas
identified.
LITERATURE REVIEW
In common with the experience of many countries in the developing world, post-
apartheid South Africa has been at the forefront of the development and
implementation of a set of pro-SME policies (Rogerson, 2001b:271). The promotion
of SMEs has been recognised by the South African government as one of the key
pillars of economic strategies for reconstruction and development in post-apartheid
South Africa. The monitoring of research on the SME economy in South Africa is
viewed as a critical issue of high policy relevance (Rogerson, 2008:35). SMEs are
critical in the economic and social development of most countries (Sanda, Sackey &
ltholm, 2011:7). They are especially important for their role in job creation with low
investment, development of entrepreneurship, regional development, and as
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suppliers to large companies. However, despite their important contribution to
economic vitality, small firms often experience financial stress (Carter & Van Auken,
2006:493).
The definition of SMEs
Internationally an SME is defined by the annual turnover and the number of full-time
employees in the firm (World Bank, 2011:4). The Asia-Pacific Economic Cooperation
(APEC) indicates that in APEC’s participating countries an SME normally will have
not more than 100 employees (Liang, 2003:173). To qualify as an SME in South
Africa, a firm should have not more than 50 employees and a turnover of less than
R64 million (South Africa, 1996). However, the new small business corporation tax
aimed at SMEs, includes all firms with an annual turnover of less than R14 million
(Burger, 2009:4). For this study the target population is, therefore, all SMEs with a
turnover of less than R14 million that employ fewer than 50 full-time employees.
Failure and sustainability of SMEs
SMEs in South Africa are more likely to fail than to succeed. Van Eeden, Viviers and
Venter (2003:13) estimated the failure rate of South African SMEs to be between 70
and 80 percent. Olawale and Garwe (2010:730) and Mutezo (2013:153) were of the
opinion that 75 percent of new SMEs in South Africa will never become established
firms. Radipere and Van Scheers (2005:402) estimated this failure rate to be as high
as 90 percent. When South Africa is compared internationally, the failure rate of
South African SMEs is extremely high.
In South Africa, whereas as few as 19 percent of adults intend to become
entrepreneurs, only 2.3 percent (of adults) eventually become the owners of
established businesses (Turnton & Herrington, 2012:53). This rate is one of the
lowest and far below the average of eight percent for similar countries.
While new business owners in the UK generally open their businesses flush with
optimism at their chances of success, more than 50 percent of them fail in the first
two- and- a- half years of trading (Dennis and Fernald, 2001:75; Cressy, 2006:103).
In South Africa Radipere and Van Scheers (2005:402) estimate that 40 percent of
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small firms fail in their first year, 60 percent before their second year has passed and
90 percent in their first 10 years of existence. Adeniran and Johnson (2012:4088)
estimated that South African SMEs fail at a rate of between 70 and 80 percent.
Pretorius (2009:1) estimated this rate to be between 50 and 90 percent.
The sustainability of an SME is generally linked to the period that it actively trades in
the market. Young firms tend to be more prone to failure than older ones (Cressy,
2006:103). Knaup and Piazza (2007:7) found that, if the age of an SME is less than
one year, it has only a 31% probability of surviving for seven or more years (see
Figure 1). On the other hand, if an SME has already survived for four years the
probability of lasting three more years (in total, then, seven years) increases
significantly to 70 percent. Only after seven years do these authors regard the SME
to be well established.
Figure 1: Age of the SME and probability of surviving for seven or more years
(Source: Adapted from Knaup & Piazza, 2007:7)
Von Broembsen, Wood and Herrington (2005:20) were of the opinion that South
African and Mexican start-up firms are the least likely of their international
counterparts to survive for more than 42 months (three and a half years). Olawale
and Garwe (2010:730) defined a SME that has been in existence for more than 42
months, as an established SME, as the risk of failure reduces significantly after this
time period. For the purpose of this study it is assumed that a sustainable SME is
one that has traded for at least 42 months.
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South African studies
A number of South African studies similar to this one have been done on various
financial aspects of SMEs. The titles of these studies, the research design and the
sample sizes are summarised in Table 1.
Table 1: Sample size of related studies
Researcher
Year
Title
Sample
Size
Van Eeden,
Viviers &
Venter
2003
A comparative study of selected
problems encountered by small
businesses in the Nelson
Mandela, Cape Town and Egoli
metropoles
1 036
Schwarze
2008
Involving the accounting
profession in the development
of financial management skills
of micro-enterprise owners in
South Africa
8
Rajaram &
O’Neill
2009
Profit or no profit does the
SME sector really know?
30
Ligthelm
2010
Entrepreneurship and small
business sustainability
300
Olawale &
Smit
2010
The impact of the business
environment on the availability
of trade credit to new SMEs in
South Africa
233
Rootman &
Kruger
2010
Adapting SMME business
functions during economic
turmoil.
250
Nkosi,
Bounds &
Goldman
2013
Skills required for the
management of Black-owned
small enterprises in Soweto.
25
Badenhorst-
Weiss &
Cilliers
2014
Competitive advantage of
small businesses in Soweto.
497
Van Eeden et al. (2003:44) endeavoured to establish to what extent small
businesses in a typical South African setting experienced selected problems as
negatively influencing the success of their business. The most prominent problem
areas were economic and financial factors, competition, socio-economic problems
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and change. Schwarze (2008:139) found that most SME owners do not possess the
critical financial management skills required to ensure survival and growth of their
enterprises. Rajaram and O’Neill (2009:115) determined that the SME sector in
KwaZulu-Natal did, on average, not possess the accounting and financial
management skills needed to function optimally and reach their full potential with
regard to profitability, growth and sustainability.
Ligthelm (2010:131) determined that entrepreneurial acumen, business and financial
management skills can be classified as the strongest predictors of small business
survival. Olawale and Smit (2010:1778) investigated the impact of the business
environment (internal and external environment) on the availability of debt from
commercial banks to new SMEs. Internal factors were labelled as managerial
competencies, collateral, networking and business information, which were
important. The external factors were labelled macro-economy, legal, ethics, crime
and corruption. Results showed that both internal and external factors have a
significant impact on the availability of debt to new SMEs.
Rootman and Kruger (2010:107) investigated how SMEs should adapt their business
function to improve business performance during times of economic turmoil.
Respondents regarded the financial management function as the area in SMEs that
required the most focus and adjustment, to improve business performance during
challenging economic times. Nkosi, Bounds & Goldman (2013:1) sought to identify
the most pertinent business and management skills required for the management of
small enterprises in Soweto. The findings indicated that most SME owners lack
management and business skills and that SME owners often seem to be driven by
non-monetary rewards.
Badenhorst-Weiss and Cilliers (2014:1) explored the various sources of competitive
advantage, focusing specifically on differentiation (also in price) and a unique value
package to ensure competitiveness and sustainability for independent small
businesses in Soweto. It was found that sustainable small businesses use the
elements of their value packages better than stagnating or shrinking businesses.
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From the literature reviewed above it can be deduced that SMEs, although very
important for the South African economy in terms of creation of both job
opportunities and wealth, continue to have a high failure rate. It is also apparent that
financial management practices are necessary for SME survival, growth and
success. However, no research has yet investigated the relative value of different
financial management practices among the owner-managers of SMEs, nor how
frequently these practices are performed.
DEFINITIONS
Different concepts should be clearly defined and distinguished. Accounting can be
defined as the systematic and comprehensive recording of financial transactions
pertaining to a business (Brigham & Houston, 2011). The primary objective of
financial accounting is the preparation of financial statements - including the balance
sheet, income statement and cash flow statement - that encapsulates the company's
operating performance over a particular period, and financial position at a specific
point in time. Cost accounting entails the recording of all the costs incurred in a
business in a way that can be used to improve its management. Financial
management, on the other hand, can be defined as the planning, directing,
monitoring, organizing, and controlling of the monetary resources of an organization.
It is clear that these concepts may overlap, but for an SME owner the differences
may be much less obvious. However, the skill-set required for each of the disciplines
of accounting and financial management are not necessarily the same. For example,
an SME owner might not know how to prepare an income statement, but might be
able to interpret its results.
SUCCESSFUL SMEs
The success of a firm is normally measured by its financial performance (profits,
return on assets, and return on investment); product market performance (sales or
market share) or shareholders’ returns (Richard, Devinney, Yip & Johnson,
2009:722). Traditionally, SMEs are also typically expected to aim at growth over time
(Berger & Udell, 1998:613). However, what an owner-manager of an SME defines as
success for an SME could differ. Subjective factors such as personal satisfaction,
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work-life balance, customer satisfaction, employee satisfaction, and usefulness are
often seen as more important than financial performance (Gorgievski, Ascalon and
Stephan, 2011:222). Dennis and Fernald (2001:75) found that only 17 percent of the
owners of new SMEs had as their aim to start a profitable venture which would
improve the owner’s financial standing.
LeCornu, McMahon, Forsaith and Stanger (1996:1) and Walker and Brown
(2004:577) agreed that entrepreneurs often define success more in terms of non-
financial factors. In spite of the above, there are strong indications in the literature
that if SMEs are not managed well from a financial point of view, they will not
continue to be successful (Collis & Jarvis, 2002:100; Carter & Van Auken, 2006:493;
Cressy, 2006:103; Rajaram & O’Neill, 2009:99).
External and internal factors related to the failure of SMEs
The factors that contribute to the failure of SMEs can be classified into external and
internal factors. External factors are those that cannot be controlled by the owner-
manager, such as the macroeconomic environment, social factors such as crime,
ethics and corruption, technology and the regulatory environment (Olawale & Garwe,
2010:732). Internal factors within the SME are factors which can be controlled by the
SME, such as access to finance, geographic location and the level of managerial
skills in the SME. As Figure 2 indicates, Canadian SMEs that fail due to internal
factors predominately fail due to the lack of general management and financial
management skills (Statistics Canada 1997:24).
Figure 2: The importance of internal factors causing bankruptcy
(Source: Adapted from Statistics Canada 1997:24)
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From Figure 2 it seems that a lack of financial management skills is more than twice
as likely to cause financial failure than a lack of operations or human resource skills.
It is evident that financial management skills are some of the cornerstone skills for
successful SMEs. Olawale and Smit (2010:1790) agree that, for South African
entrepreneurs, the lack of financial management skills is one of the most important
inhibiting internal factors.
SME success and the use of financial information
How strong is the correlation between the use of financial information and success of
SMEs? Mixed results have been found by different researchers. For SMEs in the
USA, McMahon and Davies (1994:15) did not find a significant correlation between
more comprehensive historical financial reporting and the use of financial ratios on
the one hand and the SME’s rate of growth and financial performance on the other.
Thomas and Evanson (1987:570) found no relationship between the use of financial
ratios and the success of small pharmaceutical firms in the UK. However, they
argued that this may be due to a lack of sophistication in the use of these ratios.
Akande (2011:372) confirmed that accounting and financial management skills are
important for entrepreneurs and advise small business owner-managers to embark
on capacity building in these disciplines. Roodt (2005:18) found that financial skills
are some of the top skills that entrepreneurs report as necessary for success in
business.
Financial management is one of the most important management skills for an SME
because it affects every aspect of the entrepreneurial venture (Watson, 2004:88).
Financial management entails minimising the costs, maximising the profit, and
planning and controlling the financial assets of the firm (Bloom & Boessenkool,
2002:244).
Collis and Jarvis (2002:100) investigated the use of financial information by small
companies in the UK and found that the majority of small companies adopt practices
that include formal planning and control. Everett and Watson (1998:372) argued that
SMEs cannot be successful without sufficient funding and adequate management
skills. However, the funding obtained can often be linked to the level of financial
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management skills present within the SME. Olawale and Garwe (2010:736)
proposed that new SMEs should be able to draw up business plans, have strategic
and operational plans and forecast cash flows to secure debt, actions which are
mostly the result of advanced financial management skills. Without these key
outputs, credit providers are hesitant to provide funding to SMEs.
From the above it can be postulated that financial management skills are
indispensable to successful SMEs. Benzing, Chu and Kara (2009:86), Rootman and
Kruger (2010:107) and Ligthelm (2010:131) agree. In spite of all the reasons why
financial management skills and practices are regarded as indispensable for SME
success, very few researchers have investigated which specific of these practices
are the most relevant for entrepreneurs. However, financial management practices
could first be grouped into logical groups and linked to financial topics and financial
skills.
LINKING SPECIFIC FINANCIAL MANAGEMENT PRACTICES TO FINANCIAL
MANAGEMENT TOPICS AND TO FINANCIAL MANAGEMENT SKILLS
In order to understand the scope of financial management practices more fully, it is
useful to link these practices to established financial management topics and
financial management skills. Chandra (2008) raises five main topics relating to
SMEs:
cost and management accounting;
financial analysis and planning;
investment decision;
financing decision; and
working capital management.
Brigham and Houston (2011:4) and Moyer, McGuigan and Kretlow (2012:23) list
various financial management practices which are important for SMEs. In Table 2
these practices are linked to the financial management topics. For instance, the
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interpretation of an income statement is more related to the topic of financial analysis
and planning than to other topics.
Table 2: SME financial management practices linked to financial
management topics
Financial management topic
Financial Management Practice
Cost and
management
accounting
Financial analysis
and planning
Investment
decision
Financing
decision
Working capital
management
Profitability management
Interpret income statement
Prepare tax returns
Prepare forecasted income statement
Analyse forecasted variance on income statement
Prepare break-even analysis
Prepare segmented income statement
Working capital management
Prepare list of all debtors
Assess the levels of stock of the business
Prepare list of all creditors
Prepare cash flow statement
Prepare forecasted cash flow statement
Analyse cash flow statement using previous periods as a base
Budget/Forecast Variance analysis on cash flow statement
Analyse bank statements using previous periods as a base
Asset and liability management
Prepare balance sheet
Prepare forecasted balance sheet
Analyse balance sheet using previous periods as a base
Budget/Forecast variance analysis on balance sheet
Analyse key financial ratios in the business
Strategic financial management
Prepare business plans
Perform scenario analysis & planning
(Source: own contribution)
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From Table 2 it can be seen that various financial management topics, from
accounting to working capital management, all play an important role in the
successful management of a company and have financial practices associated with
them which sometimes overlap. Rajaram and O’Neill (2009:111) and Schwarze
(2008:145) identify four categories of financial management skills, namely cash flow
management, decision making, planning and analysis. Linking the financial
management practices to specific financial management skills could be useful to
determine which category of financial management skills is more important, on
average, for the owner-managers of SMEs. In Table 3, the financial management
practices are linked to the financial management skills as identified by Rajaram and
O’Neill (2009:111) and Schwarze (2008:145).
Table 3: Financial management practices linked to financial management skills
Financial management
skills
Financial Management Practice
Cash flow
management
Decision making
Planning
Analysis
Profitability management
Interpret income statement
Interpret tax reports
Prepare forecasted income statement
Analyse forecasted variance on income statement
Prepare break-even analysis
Prepare segmented income statement
Working capital management
Prepare list of all debtors
Assess the levels of stock of the business
Prepare list of all creditors
Prepare cash flow statement
Prepare forecasted cash flow statement
Analyse cash flow statement using previous periods as a base
Budget/Forecast Variance analysis on cash flow statement
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Analyse bank statements using previous periods as a base
Asset and liability management
Prepare balance sheet
Prepare forecasted balance sheet
Analyse balance sheet using previous periods as a base
Budget/Forecast variance analysis on balance sheet
Analyse key financial ratios in the business
Strategic financial management
Prepare business plans
Perform scenario analysis & planning
(Source: own compilation)
From Table 3 and the relevant literature reviewed, it can be inferred that the
identified financial management skills can be related to financial management
practices which are all necessary for a successful business. Bruwer (2010:69)
highlighted the importance of profitability management and states that retail SMEs
experience difficulty in interpreting and analysing accounting information. Perks and
Smith (2008:155) list debtors account management and inventory management as
major potential problem areas in SMEs. García-Teruel and Martínez-Solano
(2007:175) and Orobia (2013:226) regard the management of inventory and
accounts receivable (working capital) as important for SMEs. This confirms that
profitability management and working capital management skills are important to the
success of an SME. Asset and liability management, as well as strategic financial
management are listed as areas that require development within SMEs (Rajaram &
O’Neill, 2009:115; Schwarze, 2008:145).
PROFILE OF THE WESTERN CAPE
The target population in this study are SMEs in the Western Cape, the most South
Western province of South Africa. Although the Western Cape has only about 11
percent of South Africa’s population, it contributes nearly 15 percent of the South
African GDP (Herrington & Kew, 2013:56). Sixty percent of Western Cape
businesses have medium to high growth perceptions compared to 38 percent in
Gauteng and only 26 percent for the rest of South Africa. The Western Cape has the
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lowest unemployment figure at 21 percent compared with 26 percent for Gauteng
and 38 percent for the Eastern Cape and Limpopo. These numbers illustrate that the
Western Cape may be more accommodating towards entrepreneurs than some
other South African provinces.
Different industries contribute different percentages to the Western Cape’s regional
GDP, as illustrated in Figure 3. Similarly, various districts in the Western Cape
contribute different percentages to the regional GDP, as illustrated in Table 4.
Naturally all these industries and districts need to be represented in the sample for
this study.
Figure 3: Percentage contribution per industry to Western Cape GDP
(Source: Adapted from Statistics South Africa, 2006:71)
Table 4: Contribution of the Western Cape districts to the South African GDP
and Western Cape GDP
Western Cape Region
Share of South
African GDP
(%)
Share of
Western Cape
GDPR (%)
Cape Town
11.2%
76.6%
Cape Winelands
1.5%
10.5%
Eden
0.9%
6.1%
West Coast
0.6%
4.0%
Overberg
0.3%
2.4%
Central Karoo
0.1%
0.5%
Total
14.6%
100.0%
(Source: Adapted from Western Cape provincial treasury, 2006:217)
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Studies of the level of use of financial management practices in various parts of the
country have confirmed that SMEs all over South Africa experience problems with
the adequate application and use of these practices. These studies cover SMEs in
Kwa-Zulu Natal (Rajaram & O’Neill, 2009:99), Gauteng and the Eastern Cape (Van
Eeden et al., 2003:13) and the Western Cape (Bruwer, 2010:69). However, none of
these studies focused on the use of specific financial management practices by the
owner-managers of SMEs, nor on the frequency with which these practices are
used.
HYPOTHESES AND RESEARCH METHODOLGY
The relevant hypotheses of this study are:
Hypothesis 1 states that there are differences in the use of financial management
practices by the owner-managers of successful SMEs in the Western Cape.
Hypothesis 2 states that there are differences in the frequency with which the
practices are voluntarily performed.
Hypothesis 3 speculates that it may be true, due to the high risk and volatile
environment of SMEs, as well as the challenges that are often underestimated, that
all the financial practices that academics regard as important are not always
implemented by these companies.
Note that Hypothesis 2 covers practices that are voluntarily performed. It could be
argued that some activities may be compulsory such as submitting VAT returns or
other activities that might enhance financial management and control. For the
purpose of this study it is assumed that the impact of such compulsory activities will
not affect the results and conclusions of the study to a significant degree. The role of
the regulatory environment and compliance should be acknowledged, but for the
current purpose the impact of this role is assumed to be negligible.
A complete list of all SMEs in the Western Cape is not available. Therefore a
judgemental sample of 30 of the most successful SMEs was taken from 150 suitable
candidates from the records of an accounting firm engaged in providing financial
management consultation to SMEs. Saunders, Lewis and Thornhill (2009:235)
contend that for non-probability sampling, a minimum sample of between 25 and 30
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respondents should be used. Taking into account the sample sizes of between eight
and 1036 respondents used by similar studies (see Table 1), a sample of 30 was
deemed to be sufficient for this study.
The questionnaire consisted of two sections. The first section covered the
demographic attributes of respondents. This information is included to ensure that
the firm qualified to participate in the study. The second section of the questionnaire
allowed respondents to indicate whether the financial management practices were
used in the firm and the frequency thereof. Ethical concerns were addressed by a
letter of consent that respondents completed during personal contact with the
researcher, when they agreed to participate in the survey. If a respondent agreed to
participate, the electronic link of the questionnaire’s website was sent to him, with a
specific username and password in order to complete the questionnaire at his own
convenience. Each respondent was allowed to complete the questionnaire once
only. On completion, the website then sent the answers to a centralised database
that the researcher could access, in order to guarantee anonymity. To ensure
completeness, the website had built-in controls to ensure that all questions were
answered before it was submitted. To ensure accuracy, the website displayed the
answers to the respondent before submitting them.
RESULTS
Respondent characteristics
The main characteristics of respondents are shown in Figures 4, 5 and 6. All
respondents conformed to the requirements of the study, namely they had already
traded for at least three- and- a- half years, they had no more than 50 full-time
employees and they had an annual turnover of no more than R14 million.
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Figure 4: Turnover per respondent
Figure 5: Number of employees per SME
Figure 6: Number of years the SMEs traded
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From Figures 4, 5 and 6 it follows that the typical respondent had a turnover of
between one and five million rand per year, had less than 10 employees, and had
already traded between five and ten years.
Representative industries and districts
In Figure 3 the contribution of different industries to the Western Cape GDP is
indicated. Following this, the percentage of this study’s respondents per industry is
given in Figure 7. The three main industries, namely wholesale and retail (50
percent), financial and business services (37 percent) and manufacturing (7 percent)
were in total represented by 93 percent of the respondents.
Figure 7: Respondents by industry
Figure 8: Geographical location of respondents
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In Figure 8 the geographical distribution of respondents is given. The same structure
of representation as the distribution of the regional GDP (see Table 4) is evident
here. Whereas the district of the City of Cape Town was represented by nearly 70
percent of the respondents, the other districts had fewer respondents.
The main results of the study are summarised in Table 5. The different financial
management practices are linked to the financial topics (see Table 2), as well as to
different financial management skills (see Table 3). The use of the practices is
indicated by the percentage of respondents that perform them at all. Similarly the
percentages of respondents who voluntarily perform the practice more than once per
quarter, are also indicated. In the last column the weighted averages are given per
financial practice, which could be used as an approximation of the relevance of the
practices. In Table 5 the practices are ranked in decreasing order of relevance.
Table 5: Ranking of financial practices by average of use and voluntary
performance more than once every quarter
Ra
nki
ng
Financial practice
Financial
management
topic
Financial
management
skill
Percentage of
respondents
who perform
this practice
Percentage
respondents
who perform
this practice
voluntarily
more than once
per quarter
Weighted
average
1
Prepare list of debtors
Working capital
Cash flow
100
100
100
2
Prepare list of creditors
Working capital
Cash flow
93
93
93
3
Interpret income statement
Profitability
Decision making
90
67
78
4
Determine stock levels
Working capital
Cash flow
78
65
72
5
Prepare cash flow statement
Working capital
Cash flow
77
60
68
6
Interpret tax report
Profitability
Decision making
100
27
63
7
Prepare balance sheet
Balance sheet
Decision making
90
33
62
8
Determine break-even point
Profitability
Decision making
76
45
60
9
Prepare segmented income
statement
Profitability
Decision making
64
50
57
10
Prepare forecast income statement
Profitability
Planning
83
30
57
11
Compare actual to forecast income
statement
Profitability
Planning
77
30
53
12
Prepare forecast cash flow statement
Strategic finance
Planning
70
37
53
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13
Compare actual with past cash flow
Working capital
Analyse
60
40
50
14
Analyse bank statement
Working capital
Analyse
60
33
47
15
Prepare scenario analysis
Strategic finance
Planning
77
13
45
16
Compare actual with forecast cash
flow
Working capital
Planning
57
30
43
17
Compare actual to past balance
sheets
Balance sheet
Analyse
67
10
38
18
Perform financial ratio analysis
Balance sheet
Analyse
53
10
32
19
Calculate financial ratios
Balance sheet
Analyse
53
10
32
20
Prepare forecast balance sheet
Strategic finance
Planning
43
7
25
21
Prepare business plan
Strategic finance
Planning
43
3
23
(Source: own compilation)
From Table 5 it can be concluded that there are definite differences in the
percentage of respondents that use the financial management practices. This
confirms Hypothesis 1 concerning the differences in the use of financial
management practices. If one investigates the top five financial practices on this list,
those involving working capital and cash flow feature prominently. This confirms the
importance of regular information regarding cash flow for the owner-manager and
the important role that working capital plays in the success of the SME (García-
Teruel & Martínez-Solano, 2007:164).
If one investigates the bottom five financial management practices on this list, it can
be seen that to analyse and to plan, to use the balance sheet and to engage in
strategic financial activities are not used as much by the SMEs. It is cause for
concern that some of these practices are performed by only 43 percent of the
respondents. On the one hand one could say that respondents regard it as
unnecessary to prepare a business plan or forecast a balance sheet on a regular
basis, which are clearly much less relevant than, for instance, the management of
cash flow. On the other hand one should take note of the fact that fewer than half of
respondents ever perform these activities.
Table 5 also shows that there are differences in the percentages of respondents who
voluntarily perform the practices more than once per quarter. This confirms
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Hypothesis 2 concerning the differences in the frequency with which the practices
are voluntarily performed. Hypothesis 3 is as yet unanswered and leaves one with
the question: Is it perhaps true that SMEs do not use all the financial practices that
academics regard as important, due to the high risk and volatile environment of
SMEs, as well as the challenges that are often underestimated? This could be true,
but enough evidence does not appear in this study.
From Table 5 the averages of practices per financial management topic were
calculated and are given in Table 6. Similarly the averages of practices per financial
management skill are given in Table 7.
Table 6: Ranking by financial management topic
Ranking
Financial
management
topic
Average
percentage
respondents
who perform
this practice
Average percentage
respondents who
perform this practice
voluntarily more than
once per quarter
Weighted
average
1
Working capital
75
60
68
2
Profitability
82
42
62
3
Balance sheet
66
16
41
4
Strategic finance
54
8
31
Table 7: Ranking by financial management skill
Ranking
Financial
management
skill
Average
percentage
respondents
who perform
this practice
Average percentage
respondents who
perform this practice
voluntarily more than
once per quarter
Weighted
average
1
Cash flow
management
87
80
84
2
Decision making
80
48
64
3
Planning
64
21
43
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4
Analysis
59
21
40
From Table 6 it can be concluded that practices regarding working capital as well as
profitability are much more relevant than those regarding a balance sheet or
strategic finance. Similarly, one could conclude from Table 7 that practices related to
cash flow and decision making are more relevant than those related to planning or
analysing.
LIMITATIONS AND AREAS IN NEED OF FUTURE RESEARCH
This study was limited to SMEs in the Western Cape. Future studies may investigate
whether the same relationships hold for SMEs in other provinces. Secondly, no claim
can be made that causality was proven. One cannot assume that these SMEs only
became successful because they used these financial management practices; many
other variables could also have played a role. Future research could investigate
whether less successful SMEs have a different pattern of use of these financial
management practices in order to understand more fully the relationship between
these practices and SME success. Thirdly, future research could investigate whether
SMEs could be even more successful if they would better understand the important
role that analysing, planning, the balance sheet and strategic financial activities
could play in their firms. Lastly, it should also be pointed out that there could be a
bias in the type of SME that participated in the survey. The fact that these SMEs
were clients of a management consulting firm could mean that they already
conformed to certain requirements, such as being registered for tax, while they
certainly realised the importance of financial advice. Future research might also
focus on the relationships between financial practices and other variables where
SMEs do not receive assistance from financial consultants. Could it be true that the
high risk and volatile environment of SMEs, as well as the challenges that are often
underestimated, are the main reasons that most financial practices that academics
regard as important are not always utilised by these companies? Future research
could address this issue.
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CONCLUSIONS AND RECOMMENDATIONS
The aim of this study is to identify which specific financial management practices are
the most relevant to successful SMEs. It has now been established that financial
management practices regarding working capital and profitability are more relevant
to the owner-managers of established SMEs than those regarding balance sheets
and strategic financial management. Practices regarding cash flow and decision
making are also much more relevant than those regarding planning and detail
analysis. It seems that to focus on short-term management issues like cash flow, is
much more relevant for established SMEs than to have a medium to long-term view
of the firm. On the other hand it could be argued that these firms became successful
SMEs because they had a stronger focus on short-term management issues than on
medium- to long-term aspects.
A number of recommendations can be made from this study. Firstly, nascent
entrepreneurs and owner-managers of young SMEs should take note of the financial
management practices that established SMEs have found to be most helpful.
Secondly, educators of these entrepreneurs should take note of these rankings of
practices by respondents. Thirdly, one could speculate whether these SMEs would
not perhaps have been even more successful if they had, in fact, placed a higher
focus on analysing and planning, or given more attention to understanding balance
sheet items or engaging in strategic financial activities. This study contributes to a
better understanding of which specific financial management practices are the most
relevant to successful SMEs.
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