The multi-discriminant analysis and methodologies involving ratio disaggregation or decomposition such as DuPont analysis are commonly used as well for the purpose of financial analysis.
Any user of financial statements must comprehend the limitations associated with ratio analysis. Ratios are attractive as they are simple and convenient. The ratios can only be as relevant as the data upon which they are based and the information with which they are compared. One glaring limitation of ratios is that they are based on historical cost convention, which can lead to limitations in measuring performance. By not incorporating information on changes in price, inaccurate assessments of the enterprise's financial condition and performance result. Also, all users must keep in mind that where estimated items (such as depreciation and amortization) are large and significant, income ratios lose some of their credibility. Income recognized before the end of the life of the business is just an approximation. In analyzing the income statement, the user should be aware of the various assumptions used in the computation of net income. As one writer aptly noted, "The physicist has long since conceded that the location of an electron is best expressed by a probability curve. Surely an abstraction like earnings per share is even more subject to the rules of probability and risk." (Cheney, 1971)
Probably the greatest pitfall of ratio analysis is the difficult problem in achieving comparability of firms in a given industry. Achieving comparability among firms requires that the ratio analysis (1) identifies the basic differences existing in their accounting principles and procedures and be (2) flexible enough to adjust the balances (modify the raw data) to achieve comparability. In any peers group ratio analysis it is important to compare ratios to the industry average ratios to see how one company compares to its competitors or even to compare with similar companies or within industries. In US one often uses Standard Industrial Classification (SIC) or North American Industry Classification System (NAICS) codes as part of peer ratio analysis. Majors like Dun and Bradstreet provides "average" ratio levels for firms in a number of different industries. Deviation from the "industry norm" by a firm may indicate one of the following: 1) a strength in the firm, 2) a weakness in the firm, or 3) a difference in the operating characteristics between the firm and the "industry norm." One must realize that a ratio that is higher than the norm is not necessarily better. This is obviously true for the debt-equity ratio and perhaps less obviously true for the current ratio. A current ratio that is too low may indicate that the firm is not able to raise cash easily; a current ratio that is too high may indicate that the firm is not investing its funds in the most profitable assets (fixed asset investment is often more
This paper has the primary objective to look at the use of accounting ratios in financial analysis of a business organization. A general set of widely used accounting ratio groups are stated. The write-up goes on to explore the various pitfalls faced in indiscriminate and random use of such ratio analysis to draw financial conclusions…
As per the Income Statement and the Balance Sheet, the company seems to be a very good profitable organisation but a mere look upon these two financial statements do not give a decisive position about a company’s performance, hence proper analysis needs to be done.
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.
You can use them to examine the current performance of your company in comparison to past periods of time, from the prior quarter to years ago. Frequently this can help you identify problems that need fixing. Even better, it can direct your attention to potential problems that can be avoided.
The author states that there are a number of important pointers that one can pick with regards to the theory of ratios for that matter. Let us start with the financial ratios. These are the flags that in essence lay the foundation for showing those areas that can be remarked as the ones having strengths or weaknesses.
c. Cost of food sold percentage: This is expressed as cost of foods soled as percentage of total food sales. This works out to be 38.9%, which is within the range of industry average of 35-40%. However, this actual of 38.9% is
According to this plan, they will not send any waste to landfill by 2012. (Marks & Spencer, 2010)
The company offers clothing and food, as well as home ware, furniture and technology. The company gained recognition and importance in the British business
strates a company’s ability to pay off its short term obligation/ current liabilities (amount due within 12 months time) with the current assets that it holds (Bpp Learning Media, 2009).
Gearing is an essential element which helps in deciding upon the balance between equity
A comparative analysis with a local healthcare organization namely, Health Management Associates have been conducted to determine the scope of improvement in the performance of healthcare services.
The financial ratios play a