Ratio and Financial Statement Analysis Essay

This typography analyzes tools apply in monetary outline such as symmetrys. Financial balance analysis is a fresh way for contrastive stakeholders to utilisation for different goals.This base demonstrates that financial symmetry analysis is an important instrument to estimate re germs and their used. It also demonstrates that despite the situation that financial dimension analysis is an excellent tool, it does harbour constraints. In position, we bequeath examine financial symmetry by analyzing they limitations and they benefits.References used in this paper are from books and journal in a scholarly journal. Presentation of the selective information and the methodology used are objective they are supported by cases.Is it possible to estimate or quantify a companys birth and future performance? The answer is yes, but you need tools and teach how to use them. Financial dimension analysis is an excellent tool for companies to evaluate their financial health in orde r to identify feebleness so as to institute corrective measures. Financial balances are first and fore close managers concern because they want to determine what divisions have performed well. It is as well stockholders concern because they want to know the value of their stock. Financial ratio is used by creditor to determine whether they bequeath receive the money the loaned to the unbendable(Parrino, Kindwell, & Bates, 2011).Financial analysis is used to analyze whether an entity is stable, solvent, liquid, or acquireable lavish to be invested in (Financial Analysis, Investopedia). The purpose of financial statement analysis is to admirer users in predicting the future. In other words, ratios are highly important profit tools that helper to implement plans that improve positivity, liquidity, financial structure, reordering, leverage, and interest coverage. (Anonymous, 2000). Ratios are a great deal able to help predict performance as well as provide indications of many potential problems. Despite the fact that financial ratio analysis send packing provide imminent problems of the companys performance, some important limitation should be noned when employ financial ratios. In fact, most financial ratios adoptt tell the full story.This paper will analyze the benefits and limitations of ratio analysis, explaining what factors impact the meaningfulness of such measures.Financial ratio analysis is a usable tool for users of financial statement. According to parino et al (2011), ratio analysis simplifies the comprehension of financial statements. They inform the financial alteration of the parentage. Thus, one of the advantages of using this tool is to acquire information about a business. For instance, the total debt ratio shows the use of debt in a firms capital structure. The higher the debt ratio, the more debt the company has.Another benefit of using ratio analysis is that they facilitate comparison among different businesses, and in the midst of firms which differ in size. As an illustration, let compare the Price-Earning ratio (P/E) of both companies with different business. Recall that P/E ratio is the ratio most people are familiar with and helps one determine whether or not a stock is too expensive or a in truth good deal by facial expressioning at the earnings telling to stock hurt (Siegel, Shim, 2000).As shown above, the ratio helps to gauge the trends of price-earnings of these for two different companies with different business thus, the P/E ratio whitethorn help an investor to make decision.Financial ratio preserve also bring to blowsy a companys performance, strengths and weak points. And so, the firm may looks up areas that would need additional effort, upgrading and analysis. For instance, a high ratio inventory perturbation ratio could mean that the company has had unexpectedly strong sales a good sign, or it could mean the firm is not managing its buying as well as it might and inventory tha t remains in address produces no revenue and increases the price associated with maintaining those inventoriesIn addition, a ratio analysis provides an excellent and comprehensive tool that helps investment decisions in the case of investors and modify decision in the case of bankers. (Parrino, Kindwell, & Bates, 2011). An example of this will be a firms need of money to finance its asset. Creditors will look at companys current ratio (current assets divide by current liabilities) to determine a companys ability to hold out financial crises, at least in short term. Loans are a good deal attached to this ratio. In the same way, investor looks at companys profitability ratios to measure how much profit a company generates when they are looking where to invest their money.As can be seen, financial ratios are unmistakably helpful indicators of a firms performance, and financial situation. Although ratios analyses are useful tool, they should be used prudently.Ratios are only as go od as the selective information upon which they are based and the information with which they are compared. (Kieso, Weygandt, Warfield, 2010)Thus, ratios analysis present some disadvantages.First, ratios are insufficient in themselves as a source of evaluation about the future (Parrino et al, 2011). They just explain interactions involving past data while users are more interested about present and forthcoming information (Accounting for management, 2011). Basically, they give a clue or sign of the business strengths and weak points, and that in short term. Therefore, they should be used as only one of analytical tools in the management. Not to honorable mention that ratios are ineffective when used in isolation. Most financial ratios dont tell the full story. They have to be identify berth by side over time for the same company or across company or with the sectors average.A private ratio actually does not make a consistent conclusion. It takes more than a ratio to be evaluate d to obtain a suitable action, which makes ratio analyses a little bit complex. For example, the return on asset ratio (ROA), and the profit margin ratios do not incorporate opportunity cost of risk. Similarly, the return on equity ratio (ROE) ignores cost of capital investments necessary to generate earnings.Another limitation is that ratio analysis depends on account statement data based on historical coast (Parino et al, 2011). According to Kiesel, the fact that ratio analysis is based on historical cost may lead to distortions in measuring performance. Given that the financial statement does not include any financial changes, a modification in price during the run period may not affect the calculated ratio. In fact, inaccurate assessments of the enterprises financial condition and performance can result from failing to incorporate fair value information ( Kieso and al, 2010)The stand firm limitation of ratio analysis but not the least is the flash factor. The fact that diffe rent inventory valuation (FIFO, LIFO, Average cost) may be in use to run a business, when prices tend to rise (inflation factor) the prime(prenominal) of accounting method is able to dramatically affect valuation ratios. To put it differently, inflation may render the comparison of financial ratios inappropriate. For instance, one business may use FIFO while another may use LIFO. If this is the case, some of the ratios, such as inventory turnover, and gross profit margin, would be disparate if pricesare rising. Another fact is that the variations of the ratios are shown to be sapiently peeled to recession (Kane, G.D, 1997). In his study, Kane, G.D affirms that value-relevance of many financial ratios are sensitive to the occurrence of recession.As has been noted, accounting policies, and inflation are some factors that have effect on the calculation of ratios.We can therefore argue that ratio analysis is practical tools for users of financial statement. Thus, it simplifies the un derstanding of financial report, it makes comparison between firms possible, it highlights a companys performance, and it provides an appropriate tool that helps investor and creditors. We noted that financial ratios have some disadvantages. In fact, they are insufficient in themselves as a source of judgments they are useless when used in isolation, and they can falsify comparisons when different accounting practices are used. All subjects considered, I will say that even if ratios analyses have concrete obstacles they still are the most useful tool in the financial world. The most important thing to keep in mind is to know how to use them, and understand their limitation. name and address LISTBooks and E-BooksBooksKane, G.D (1997). The effect of recession on ratio analysis. The Mid-Atlantic daybook of Business,33 (1), 19. think back from http//www.highbeam.com/doc/1G1-19568525.htmlKieso, D.,E., Weygandt, J.J., Warfield, T.D.(2010). Intermediate Accounting. New Jersey John Wiley & Sons, IncParrino, R., Kindwell, D., Bates, T. (2011). fundamental principle of corporatefinance. New Jersey John Wiley & Sons, Inc.E-BooksSiegel, J.G., Shim, J.K. ( 2000). Dictionary of Accounting Terms, Retrieve fromhttp//web.ebscohost.com.ezproxy.umuc.edu/ehostElectronic sourcesAccounting for management, 2011. Retrieve fromhttp//accountingexplained.com/financial/ratios/advantages-limitationshttp//www.nasdaq.com/symbol/mcd/pe-ratiohttp//www.investopedia.com/terms/f/financial-analysis.aspaxzz1sqK89uaFpicpic