Analysis of Financial Statements - Class 12 Accountancy - Chapter 8 - Notes, NCERT Solutions & Extra Questions
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Extra Questions - Analysis of Financial Statements | NCERT | Accountancy | Class 12
State any three advantages and three limitations of analysis of financial statements.
Advantages of Analysis of Financial Statements
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Assessing Profitability
Analysis of financial statements aids in evaluating the current earning ability of a business and is instrumental in predicting future profitability. -
Assessing Management Efficiency
It helps in determining both the efficiency and inefficiencies of management operations and decisions. -
Assessing Liquidity
Liquidity refers to the company’s ability to meet its short-term obligations. Financial analysis facilitates this assessment by comparing current assets with current liabilities, which is crucial for creditors and suppliers.
Limitations of Analysis of Financial Statements
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Inherent Limitations of Financial Statements
Since the analysis uses financial statements as its foundation, all inherent limitations of these statements affect the analysis. For example, the influence of accounting conventions and the disclosure limitations to monetary facts only. -
Susceptibility to Bias
The financial statements may contain biases due to the detrimental role of personal judgments and discretion used in determining values of various accounting items such as provisions for depreciation and stock valuations. -
Ignores Price Level Changes
Financial analysis typically does not consider the impact of inflation or price level changes, as it relies on historical records. Thus, it might not accurately represent the current value of the enterprise.