Inadequacies of Accounting Ratios as Tools of Financial Analysis.

Ratio analysis provides an indication of a gilds limpidity, gearing and solvency. just ratios do not provide answers; they are merely a claim for management and others to the areas of a familiaritys weaknesses and strengths (Palat 1999). However, ratio analysis is arduous and at that place are many limitations. This section entrust identify and discuss the inadequacies of accounting ratios as tools of financial analysis. explanation POLICIES. It is difficult to use ratios to equivalence companies, because they very often find proscribed different accounting policies. For example, whiz company whitethorn shelter stock under the last in first out principle, another may follow the FIFO principle. Similarly, nonpareil company may depreciate assets under the straight line method, term of enlistment its competitors may be using reducing balance method. Also, unmatchable company may value their assets using the historical play rule while another may use the bound ac counting rule. Other areas in which policies may differ mingled with companies imply development cost deferral policy, capitalisation of avocation costs, and so forth SKILL OF ANALYST In other to state whether a ratio is good or bad it must be intelligently interpreted. For example, a risque current ratio may indicate, on the one hand, a liquidity position (which is positive) and, on the other excessive liquid cash (which is negative).

RETURN ON EQUITY A direct comparison between the birth On Equity (ROE) of different incorruptibles may not ever be meaningful. Apart from national or industrial differences in the accounting or business practices the ! risk of immobiles may bring up differ. For example, a firm with high gearing would be label to earn a high ROE than would a firm with low gearing. This would be expected to earn a higher(prenominal) ROE than would a firm with low gearing. This will be compensated for by a higher risk just this is not incorporated in the ROE... If you want to get a full essay, order it on our website: OrderCustomPaper.com

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