State any three limitations of Analysis of financial statement.
Answers
The limitations of financial statements are those factors that a user should bear in mind of before counting on them to an excessive extent.
- No discussion of non-financial issues.
- Subject to fraud.
- Not always comparable across companies.
The financial statements don't address non-financial problems, like the environmental attentiveness of a company's operations, or however well it works with the local community. A business reporting excellent financial results could be a failure in these alternative areas. These problems are often set by examining the disclosures that accompany the financial statements.
Answer:
The primary purpose of financial statement analysis is to examine the present as well as past statement of financial position (SFP) and results of operations (Income Statement) of the firm in order to determine the best suitable estimate and predict the future state and performance of the company. With this in mind, it would be fair to state that interpretations of financial ratios are not ultimately conclusive. Results from the analysis are refutable.
In addition to this, the main object (financial statement) used for the analysis is also subject to limitations. These limitations, if not carefully considered, can ultimately bring about wrong decisions. The inherent limitations of the financial statements, among other things, may stem fromIts failure to consider changes in the purchasing power, inconsistencies, as well as dissimilarities in the accounting principles, policies, and procedures used by the firms in the industry.
2. Its failure to consider changes in the purchasing power of currencies.
3. The age of the financial statements. The older it gets, the less reliable it becomes, thus, considered as a risk management tool.
4. Its failure to read and understand the information in the notes to the financial statements. It may obscure managers in evaluating the degree of risk.
5. Financial Statements that have not undergone external auditing procedures. It may or may not conform with the Generally Accepted Accounting Principles (GAAP) and standards, thus, usage of these statements may lead to erroneous analysis, and ultimately erroneous decisions.
6. Financial statements that have not undergone internal auditing procedures. It may be inaccurate or worse, fraudulent; hence, do not fairly present the company’s financial condition. Financial measurements from the analysis of these companies are not dependable and not conclusive.
7. Audited statements that do not guarantee accuracy.
Lastly, the reality that a firm is trading in the stock exchange and that its financial statements are readily available does not guarantee that the company in question is financially stable and credit worthy.