Interpretation of Financial Statements (Week 11)

Question 1

Purpose of Financial Statements

Answer 1

–> Financial statements can be assessed using ratio analysis

–> Past trends of the same business (analysis through time) and compare to budget

–> Comparative information for similar businesses (analysis by competitors)

Question 2

Information required by users:

Answer 2

–> Employees – will I get paid?

–> Governments – tax, regulations compliance

–> Suppliers/lenders – will we get paid?

–> Customers – can we rely on this company?

–> Potential investors – Is the company financially stable?

–> Management – How can we improve based on past performance?

Question 3

Limitations of ratio analysis:

Answer 3

–> Comparative information is not always available

–> They sometimes use out of date information

–> Interpretation requires thought and analysis. Ratios should not be considered in isolation

–> Not all companies use the same accounting policies

Question 4

Analysis of Financial Statements:

Answer 4

–> Make a note of all obvious changes or trends before calculating any ratios

–> If required, give reasons for the change and significance in the future