Explain the limitations of ratio analysis
Intermediate Financial Management (MindTap Course List)
13th Edition
ISBN:9781337395083
Author:Eugene F. Brigham, Phillip R. Daves
Publisher:Eugene F. Brigham, Phillip R. Daves
Chapter7: Analysis Of Financial Statements
Section: Chapter Questions
Problem 1MC: Why are ratios useful? What three groups use ratio analysis and for what reasons?
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Explain the limitations of ratio analysis
Expert Solution
Step 1
Limitations of ratio analysis:
Ratios are mostly computed based on historical costs as a result; ratios ignore the change in level of prices due to inflation.
Accounting ratio analysis can be accurate only if the information is correct. The data given in financial statements could be influenced by window dressing that is, showing better position than what actually is.
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