Methodological Issues with Financial Statements Contents Methodological Issues with Financial Statements 1 Contents 2 Introduction 3 Use of Financial Ratios 3 Critical Analysis 4 Conclusion 6 Reference: 7 Introduction Ratio analysis is an important tool to analyze the performance of a company, to predict about the future and doing the comparable analysis of two firms, in the same industry or different industry…
The paper is an attempt to analyze the accuracy of the statement taking the evidence from the last 10 years from the research work published. Use of Financial Ratios Financial ratios are used by the company stakeholders as they have different kind of interest in the concerned company. The shareholders assess the ratios and take the decision whether the performance of the company would be profitable for them, thereby take the investment decisions. The company management analyzes the flaws of the performance of past years and tries to improve it in the future years using ratio analysis tool. The creditors of the company try to find that the company is creditworthy anymore or not (Moyer, McGuigan and Kretlow, 2008, p.58). By doing the comparable analysis of ratios an investor or a prospective investor take the decision that which firm is better to invest, from where they can get the best return when the company management has the interest that how their company is performing with respect to the industry standard (Hitchner, 2011, p.103). When doing the ratio analysis for the above mentioned various purposes then the user should make sure that he has considered the various factors which affect the variables of the ratio. ...
The two companies may be in same industry, but their size and their focus areas can be different, so it would not provide the accurate result by doing the ratio analysis without taking the factors associated with it (Brigham and Ehrhardt, 2010, p.109). Two companies may not follow the same accounting standards, or a company can change the accounting standards they are following in recent years. The taxation rules of different states or countries are different as well as the political condition also. A multinational company has to face different inflation, different taxation rules throughout the world. So whether doing the trend analysis or cross sectional analysis an analyst should consider these factors. There are also technical factors associated with this issue. The analysts use many statistical tools which take the assumption that the data is normally distributed but in reality it doesn’t happen, and the outcome of the analysis not become fruitful. A research study was performed by taking the data of 66 listed Malaysian firms and the data was of the period 1980 to 1996. The sample firms were taken from 3 different industries. It is seen by the researchers while doing that research that only current asset percentage was conformed to normal distribution, which supports the fact that all data used in the statistical tool for performing ratio analysis is not normally distributed which is assumed by the analysts generally. For doing the ratio analysis effectively the researcher used three types of transformation techniques namely square, square root and natural log. The square and square root process proved as ineffective as they consider the data as normally distributed, which the natural log process don’t. The researchers ...
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The financial ratio helps to find out the performance of the firm over the years and its state of affairs. It used to analyze the functional effectiveness of the firm comparing with the competing firms. Financial ratios help to compute various financial statements and formulate new business-investment policies or to arrive at any management decision.
Finance and Accounting
Ratio analysis is a useful tool for analyzing a company, to predict about its future, but the result might get wrong if the factors of the variables are not taken in consideration. LEV and Sunder (1979) raised some basic questions like the structural relationship of the analyzed firms, the size of the firm; these factors are taken in consideration or not.
According to Lev and Sunder (1979) the extensive use of financial ratios by both practitioners and researchers is often motivated by tradition and convenience rather than resulting from theoretical considerations or from a careful statistical analysis. However, this statement of Lev and Sunder have gained criticism as well as praised by different scholars and analysts as in their research Lev and Sunder were able to identify different issues of using financial ratios.
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