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Relationship Between Financial Ratios and Share Price Performance of the Top Five Sectors on the Johannesburg Stock Exchange

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Relationship Between Financial Ratios and Share Price Performance of the Top Five Sectors on the Johannesburg Stock Exchange Relationship between financial ratios and share price performance of the top five sectors on the Johannesburg Stock Exchange Peter Desmond Steyn 29040397 A research project submitted to the Gordon Institute of Business Science, University of Pretoria, in partial fulfilment of the requirements for the degree of Master of Business Administration. 13 March 2019 ABSTRACT Financial ratios have been commonly used to evaluate firm financial performance and assist investors with the evaluation of shares. Yan and Zheng (2017) argued that the most important financial ratios are sector specific. The purpose of this research was to determine if statistically significant relationships exist between financial ratios and the share price performance of the top five sectors on the Johannesburg Stock Exchange based on market capitalisation. The five sectors were the mining, banking, life insurance, real estate investment trusts and mobile telecommunication sectors. Multiple linear regression as statistical method was applied over a 20-year period from 1997 to 2018. Statistically significant relationships were found between financial ratios and the share price performance for each of the five sectors. The mining sector displayed relationships with return on equity, price-to-book value, debt to equity, dividend yield, debt to assets and the total asset turnover ratios. Banking displayed relationships with the price- earnings and return on equity ratios. The life insurance sector and the operating profit margin displayed a relationship. Lastly, the mobile telecommunication sector delivered relationships with return on assets, dividend yield and debt to assets. This research delivered a practical contribution to the theory of quality fundamental analysis from a JSE sector perspective. i | P a g e KEYWORDS Financial ratios; Fundamental analysis; Sectors; Share Price; Johannesburg Stock Exchange (JSE) ii | P a g e DECLARATION I declare that this research project is my own work. It is submitted in partial fulfilment of the requirements for the degree of Master of Business Administration at the Gordon Institute of Business Science, University of Pretoria. It has not been submitted before for any degree or examination in any other University. I further declare that I have obtained the necessary authorisation and consent to carry out this research. Peter Desmond Steyn ------------------------------------------- 13 March 2019 iii | P a g e CONTENTS ABSTRACT .................................................................................................................... i KEYWORDS ................................................................................................................. ii DECLARATION ............................................................................................................ iii LIST OF TABLES ......................................................................................................... ix LIST OF FIGURES ........................................................................................................ x LIST OF EQUATIONS ................................................................................................... x CHAPTER 1 INTRODUCTION TO RESEARCH PROBLEM .................................... 1 1.1 Research Title ..................................................................................................... 1 1.2 Introduction ......................................................................................................... 1 1.3 Research Problem and Motivation ...................................................................... 1 1.4 Research Objective and Scope ........................................................................... 6 1.5 Academic and Business rationale ....................................................................... 6 1.6 Overview of the research report .......................................................................... 7 CHAPTER 2 LITERATURE REVIEW ....................................................................... 8 2.1 Introduction ......................................................................................................... 8 2.2 Fundamental Analysis ......................................................................................... 8 2.3 Value Investing ..................................................................................................11 2.4 Growth Investing ................................................................................................13 2.5 Financial accounting ratios .................................................................................14 2.5.1 Introduction .................................................................................................14 2.5.2 Liquidity ratios .............................................................................................16 2.5.3 Solvency Ratios ...........................................................................................16 2.5.4 Profitability & Operating Efficiency Ratios ....................................................18 2.5.5 Asset Utilization or Turnover Ratios .............................................................21 2.6 Price-to-fundamental ratios ................................................................................21 2.7 Effect of financial ratios on share price performance ..........................................23 2.8 South Africa, a unique market place ..................................................................28 iv | P a g e 2.9 Industries/Sectors of the JSE .............................................................................30 2.10 Conclusion .......................................................................................................32 CHAPTER 3 RESEARCH HYPOTHESES ..............................................................33 3.1 Hypothesis 1: Mining ..........................................................................................34 3.2 Hypothesis 2: Banking .......................................................................................34 3.3 Hypothesis 3: Life Insurance ..............................................................................34 3.4 Hypothesis 4: Real Estate Investment Trusts .....................................................34 3.5 Hypothesis 5: Mobile Telecommunications ........................................................35 CHAPTER 4 RESEARCH METHODOLOGY AND DESIGN ....................................36 4.1 Introduction ........................................................................................................36 4.2 Research Methodology and design ....................................................................36 4.3 Population ..........................................................................................................37 4.4 Unit of analysis ..................................................................................................41 4.5 Sampling method and size .................................................................................42 4.6 Measurement instrument ...................................................................................42 4.7 Data gathering process ......................................................................................44 4.8 Data analysis approach .....................................................................................49 4.8.1 Assumption 1 ..............................................................................................50 4.8.2 Assumption 2 ..............................................................................................50 4.8.3 Assumption 3 ..............................................................................................51 4.8.4 Assumption 4 ..............................................................................................52 4.8.5 Assumption 5 ..............................................................................................52 4.8.6 Assumption 6 ..............................................................................................53 4.8.7 Assumption 7 ..............................................................................................54 4.8.8 Assumption 8 ..............................................................................................55 4.9 Research Ethics .................................................................................................57 4.10 Research Limitations .......................................................................................57 CHAPTER 5 RESULTS ...........................................................................................59 5.1 Introduction ........................................................................................................59 v | P a g e 5.2 Hypothesis 1: Mining ..........................................................................................59 5.2.1 Description of data obtained and cleaned ....................................................59 5.2.2 Multiple linear regression assumption results ..............................................60 5.2.3 Descriptive statistics ....................................................................................62 5.2.4 Stepwise multiple linear regression results ..................................................63 5.2.5 Result ..........................................................................................................65 5.3 Hypothesis 2: Banking .......................................................................................65
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