2019T3 PQ_Ans_Wk10.pdf - UNSW Business School School of Accounting ACCT1501 Accounting and Financial Management 1A Term 3 2019 TUTORIAL WEEK 10

2019T3 PQ_Ans_Wk10.pdf - UNSW Business School School of...

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1 TUTORIAL WEEK 10 Solutions to Preparation Questions Preparation Questions: ° DQ15.1, DQ15.10, P15.4, P15.7, P15.13 ° DQM1.2, DQM 1.11, PM1.2, PM1.4, PM1.9 ° DQM2.1, DQM2.2, PM2.7 DQ15.1 The purpose of financial statement analysis is to use the financial statements to evaluate an enterprise’s financial performance and financial position. DQ15.10 Some advantages and disadvantages of ratio analysis are listed below. Students probably will think of others. Advantages: Ratios summarise the financial statements and so provide information in a more concise way. This makes the information more accessible to decision makers than wading through all the detailed numbers. Ratios are scale-free measures so they can be used to compare enterprises of different sizes, or the same enterprise over periods of time in which its size changes. Ratios can be aggregated into industry and other groupings, facilitating comparisons of the enterprise to others. Because they have both numerators and denominators, ratios can be usefully sensitive to changes in the underlying figures. As summarised information, ratios may be easier for people with less sophisticated knowledge of the subject (or non-accountants in general) to understand than are the detailed financial statements. Because they are ratios, they can be related to the ‘relative return’ goal that is presumed to lie behind investors’ and creditors’ decision-making. Disadvantages and ways around them: Because they are summaries, ratios are only as good as the underlying data and so will not be meaningful if the data are not (way around this: establish that the financial statements are audited, with an unqualified ‘presents fairly’ opinion by the auditors). If managers or others know that people will rely on certain ratios, they may strive to produce satisfactory ratios, such as by reducing maintenance expenses or not acquiring new assets, rather than focusing on the fundamental underlying business issues (way around this: use ratios with care and find out what managerial actions lie behind them). Ratios are just numbers and have no meaning in themselves apart from the phenomena they summarise; for example, there is nothing magic about a current ratio UNSW Business School School of Accounting ACCT1501 Accounting and Financial Management 1A Term 3 2019
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2 of 2 (way around this: become very knowledgeable about the enterprise and its competitors so that meaningful comparisons may be made).
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