Advantages and disadvantages of ratio analysis

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Ratio analysis:

Advantages:

  • With the help of accounting ratios, the financial information can be accessible in a further understandable form. Key information can be obtained by using ratio analysis. It also helps in establishing the business and also enlightening the financial position.
  • By scheming different ratios businesses get useful information which helps a lot in decision making as you can easily compare the performances of your competitors and according to that increase profitability and growth.
  • When analyzing accounting ratios, suitable information is achieved which assists in planning and forecasting for future.
  • Communication can also be done with the support of ratios as staff of the companies can link with each other by using profit related ratios and company’s sales which will generate the position of the business. Co-ordination is also achieved as weak points and strength points can easily be measured out with the help of ratios.
  • Using ratios places all businesses in the similar field of play. All the companies are arbitrated by their performance and associating two companies at a time can help in obtaining which company is making high profit along with growth and sales. To sum up, comparison can be done with the service of ratios.
  • By means of manipulating the solvency ratio, businesses can simply monitor the relationship between the liabilities and assets. If in some cases liabilities are on the complex side than the assets, the business can effortlessly measure out its financial position. This will benefit them to as if they want to establish or plan up to repay their loans.
  • Accounting ratios are essential to measure the company’s efficiency in terms of management and operations. This will help in refereeing how the company succeeds and exploits its assets and earnings.
  • Ratio analysis also provides benefits in investment decisions to the investors alongside borrowing decisions in the situation of banks.
  • Ratios can be calculated easily with the help of formulations which reduce the time for bookkeepers. Accountants can accomplish this swiftly after the preparations of financial statements. This delivers additional accounting data investigation at month close. It also creates a baseline for bookkeepers to practice in upcoming accounting stages.
  • Historical trends can also be accompanied with the help of accounting ratios by the accountants. Stalking this ratio respectively every month is crucial to regulate if the business advances its financial position. Historical trend can be attained as accountants will often keep a review on the ratio every month as a part of the business’s standard accounting development.
  • Moreover, accounting measures helps in comparing companies but the benchmark may differ from each other. Monetary accounting ratios deliver a restored benchmark, because it cracks the financial accounting evidence into mathematical numbers that eliminate the alterations in assessments. Bookkeepers can create numerous comparisons among companies by consuming financial ratios.
  • Audits use heavy amount of ratios which includes vast information about companies as comparison is a significant tool for an audit. This allows assessors to emphasize more on specific areas to evaluate a company's financial material.
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Disadvantages:

  • When calculating ratios, it is necessary to carry out the comparison between companies with related entity or else it would be inadequate. It is almost difficult to find companies with similar entity.
  • Past accounting info is the prime source of data which is used for speculation ratio enquiry. It is almost very hard to make any significant decision from information that is already been outdated.
  • Two different humans calculate various ratios and this can cause bias in judgments as information which is obtained by calculating these ratios are different which are prone to misleading and deceptive.
  • While calculating investment ratio analysis different sources of information is merged which can originate wrong decisions as information used from diverse sources may be unreliable and undependable.
  • Ratio analyses when calculated are just a guide of the performances which is not definite. This makes it challenging for investors to perform any investments causing blunders.
  • These ratios are not usually suitable formats for offering and inferring ratios. This makes an addition to the circumstances that ratio studies are independent in nature.
  • When taking under consideration, the ratio analysis is calculated with past documents along with the present which clearly gives an inaccurate image of the companies when comparing. This is because of changes in financial practices and accounting approaches. Other slight alterations can also develop in such a way that what exactly the financial position could be of the company.
  • Because of many business diversifications it is not easy to compare between businesses. If errors occur in the financial statements, it consumes a lot of time in cleaning-up the faults.
  • Accounting ratios mainly deal in numbers and as they are calculated they don’t state issues like customer service, product quality and anything related to employee as these all play an essential role in the position of the financial statements.
  • As businesses try to apply inventive accounting procedures to show enhanced financial statements which could be inappropriate and disingenuous for the users.
  • While computing ratio analysis it can cause problems as it can neglect important aspects of a company’s success. There are some primary features which do illustrate the performance and the position of the company which is omitted by ratio analysis.
  • While carrying out ratio analysis a whole bunch of information is not used when calculating ratios which can present an unsophisticated opinion of the company as they may not provide a sufficient context or be equivalent across the company.
  • Inflation can also bring a big change when calculating ratios as they can destroy the look of a financial statement. As well as it’s difficult in some ratios to observe if the value achieved is good or bad for the company. To draw an overall conclusion is also tough for some companies as they generally operate only on ratios alone affecting the values obtained in the financial statements which are negative.
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Referencing:

Advantages:

Advantages of Ratio Analysis. 2014.Advantages of Ratio Analysis. [ONLINE] Available at:http://www.svtuition.org/2011/12/advantages-of-ratio-analysis.html. [Accessed 15 March 2014].

The Advantages of Financial Ratios | Chron.com. 2014.The Advantages of Financial Ratios | Chron.com. [ONLINE] Available at:http://smallbusiness.chron.com/advantages-financial-ratios-3973.html. [Accessed 15 March 2014].

Advantages of Calculating Current Ratio Analysis | Current Ratio Formula . 2014.Advantages of Calculating Current Ratio Analysis | Current Ratio Formula. [ONLINE] Available at:http://www.currentratioformula.com/2012/05/advantages-of-calculating-current-ratio.html. [Accessed 15 March 2014].

Benefits Of Ratio Analysis | Benefits Of. 2014.Benefits Of Ratio Analysis | Benefits Of. [ONLINE] Available at:http://benefitof.net/benefits-of-ratio-analysis/. [Accessed 15 March 2014].

Advantages and Limitations of Financial Ratio Analysis. 2014.Advantages and Limitations of Financial Ratio Analysis. [ONLINE] Available at:http://accountingexplained.com/financial/ratios/advantages-limitations. [Accessed 15 March 2014].

Importance And Advantages Of Ratio Analysis | Account-Management-Economics . 2014.Importance And Advantages Of Ratio Analysis | Account-Management-Economics. [ONLINE] Available at:http://accountlearning.blogspot.ae/2010/02/importance-and-advantages-of-ratio.html. [Accessed 15 March 2014].

What is ratio? state its advantages?. 2014.What is ratio? state its advantages?. [ONLINE] Available at:http://in.answers.yahoo.com/question/index?qid=20091122212938AAq0uSY. [Accessed 15 March 2014].

The Advantages of Using Ratios in Accounting | eHow. 2014.The Advantages of Using Ratios in Accounting | eHow. [ONLINE] Available at:http://www.ehow.com/info_8547925_advantages-using-ratios-accounting.html. [Accessed 15 March 2014].

Disadvantages:

LIMITATIONS OF RATIOS | DISADVANTAGES OF USING RATIOS IN MAKING INVESTMENT DECISIONS. 2014.LIMITATIONS OF RATIOS | DISADVANTAGES OF USING RATIOS IN MAKING INVESTMENT DECISIONS. [ONLINE] Available at:http://investinginvest.hubpages.com/hub/LIMITATIONS-OF-RATIOS. [Accessed 15 March 2014].

Disadvantages of Using Ratio Analysis? - Ask.com . 2014.Disadvantages of Using Ratio Analysis? - Ask.com. [ONLINE] Available at:http://www.ask.com/question/disadvantages-of-using-ratio-analysis. [Accessed 15 March 2014].

7 limitations of ratio analysis. 2014.7 limitations of ratio analysis. [ONLINE] Available at:http://www.slideshare.net/johnmcsherry5/7-limitations-of-ratio-analysis. [Accessed 15 March 2014].

Accounting Ratios - Drawbacks & Limitations. 2014.Accounting Ratios - Drawbacks & Limitations. [ONLINE] Available at:http://www.tutor2u.net/business/accounts/ratio_limitations.html. [Accessed 15 March 2014].

What are the disadvantages of using comparative ratio analysis?. 2014.What are the disadvantages of using comparative ratio analysis?. [ONLINE] Available at:http://answers.yahoo.com/question/index?qid=20070627192907AAbrbnl. [Accessed 15 March 2014].

Limitations of Financial Statement Analysis - Using Financial Ratios for Analysis . 2014.Limitations of Financial Statement Analysis - Using Financial Ratios for Analysis. [ONLINE] Available at:https://www.boundless.com/finance/analyzing-financial-statements--2/using-financial-ratios-for-analysis--2/limitations-of-financial-statement-analysis/. [Accessed 15 March 2014].

Limitations of Financial Ratios | Ratio ProfessorLimitations of Financial Ratios - Ratio Professor. 2014.Limitations of Financial Ratios | Ratio ProfessorLimitations of Financial Ratios - Ratio Professor. [ONLINE] Available at:http://ratioprofessor.com/limitations-of-financial-ratios/. [Accessed 15 March 2014].