In what ways is financial statement analysis useful? What are the limitations of financial statement analysis? What non-financial information should be considered as part of analyzing the potential for success of any organization?
Financial statements refer to the summary of the monetary data of any enterprise including the balance sheet, statement of retained earnings, the income statement, and the statement of cash flows. The basic purpose of preparing these statements is to conduct the financial statement analysis to be used by the management, labor, suppliers, buyers, the board of directors and even the government. Firstly, the analysis indicates the financial condition of the company. Investors use the analysis to identify the opportunity of investment in the business; suppliers study the credit worthiness of the business; shareholders use the analysis to keep track of their shares; while the directors or the owners would use the analysis to be informed of their wealth and profitability (De Franco and Kothari et al., 2013).
Although financial statement analysis is considered to be highly critical for obtaining the required information while taking decisions and devising strategic plans; there certainly are some limitations too: if the statements is not prepared accurately, the information would mislead the user who analyzes it; the data used is historical information which may not be effective for the purpose of future planning; the information inherent in these statements is merely quantitative in nature and so they are not helpful for the qualitative issues like the customer satisfaction or the relation between labor and management; the historical data present in these statements cannot be used for comparative analysis; lastly, the attitude of the analyst could be biased and could have inadequate skills to analyze which can limit the use of the statements (Edmunds and Bor-Yi et al., 2011).
Some non-financial information is also being disclosed by the companies in order to improve their credibility and raise the chances of acceptance for them in the markets. Such information includes reporting the social and environmental contributions of the company and its operations. It is usually disclosed through the Sustainability Reports or the Corporate Social Responsibility Reports (Brigham and Houston, 2012). In particular for the large multinationals, disclosure of the non-financial information is a critical driver for business success.
References
Brigham, E. and Houston, J. (2012). Fundamentals of Financial Management. Mason (Ohio): South-Western/Cengage Learning.
De Franco, G., Kothari, S. and S. Verdi, R. (2013). The Benefits of Financial Statements Comparability. The Journal of Accounting Research, 49 (4), pp. 895-931. [Accessed: 27 Aug 2013].
Edmunds, T., Bor-Yi, T. and Philip R., O. (2011). Fundamental Managerial Accounting Concepts. 6th ed. New York: McGraw-Hill Irwin.
