When it comes to property financial reporting there are three key financial statements that need to be understood and which in the UK can be easily accessed through Companies House or online if the company is listed. These include the profit and loss, balance sheet and the cash flow statement.
Explaining the difference between these, as well as how to calculate basic key property metrics and how to identify and extract the information required from a set of property company accounts, was the focus of the latest webinar from Bayfield Training, presented by Ryan Seligmann, a chartered accountant and managing director of specialist property account firm Selesgroup on the 22nd May.
What is the purpose of accounting?
Ryan explained that financial accounting allows people to understand a company’s performance, financial position and how the company has applied its cash. “This information is then used to reach decisions about how to manage a business, how much to invest in it and the value of the business” he said.
These three features are illustrated through three major financial statements – the income statement, the balance sheet and the cash flow statement.
Key principles – cash versus accrual accounting
Ryan explained that financial accounts are always prepared on an accrual basis rather than a cash basis. In accrual accounting he explained that transactions, whether revenues or expenses, are recorded on the date when they are incurred rather than when the money for them is exchanged. “The accruals concept ensures that legally binding transactions are recorded in the accounts when a company is legally bound by those transaction,” he said.
Key reports within financial statements
- Income statement – This can be called various names including the statement of profit and loss or statement of comprehensive income. It includes the revenue and expenditure for the reporting period (generally 12 months but can include periods up to 18 months for newly incorporated companies) and comprises elements such as sales, cost of sales, interest on loans, tax expenses etc. This all adds up to the profit or loss – on an accounting basis rather than cash basis.
- Balance sheet – Also known as the statement of financial position and consists of the assets that the company owns and its liabilities (things that it owes others). “The assets less liabilities is referred as our net asset value or our equity,” explained Ryan.
- Statement of cash flows – Viewed by some as the true indicator of the performance of a business, the cash flow statement explains how much physical cash a company has made from its operations, how it’s invested in its operations and how it’s financed it and can reveal the true picture of the health of a business, according to Ryan. “Cash flow is very revealing and shows you exactly how management has applied cash. When you have a look at the cash flow statement, there are no lies,” he said.
Seligmann said understanding the ‘notes to the accounts’ section in a company’s financial statements also helps to explain how accounts are prepared and can provide the details of further secrets which otherwise remain hidden within the accounts. “When you read the notes they will reveal a lot more about a company’s performance,” he explained.
What’s included in property accounts
Ryan detailed exactly what was included in each of the three statements within property accounts. In the case of income statement it includes rental income, profit and loss on sale of assets, management and administration expenses, finance costs such as interest, taxation and fair value movements.
In the balance sheet it includes items such as the value of investment property, value of property held for sale, tenant arrears, VAT and tax liabilities, creditors, loans and funding.
Within the cash flow statement he explained that it could comprise cash inflow or outflow from operations, rent less expenses, what was spent on investments and received from sales of investments, how the company financed acquisitions and capex, what it did with cash from sales and how much money paid to service and arrange loans.
In a following question and answer session Ryan revealed how analysis of the above could be used on a practical basis – such as how to assess a tenant’s solvency when renting out a property.
“Ask for their financial statements and look at the date of those financial statements. Tenants are known to send outdated sets of accounts which may not be a true reflection of the business. Look at the balance sheets and understand what assets are on there that potentially you can use as security against future rents in the event that they don’t pay their rent. It’s also important to look at words like consolidated, as often companies will enter into rental agreements in various companies they own but not the ultimate holding company and then asset strip the company leaving the landlord with not much security,” he said.
The next in the Bayfield Webinar series will be An Introduction to Retail Property, which will take place on 12th June April at 11am GMT.