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ACCA Applied Knowledge · Financial Accounting · Importance and purpose of analysis of financial statements

A retailer's year end is 31 January, immediately after its peak trading season, when inventory is at its lowest. Which limitation of ratio analysis does this most directly illustrate?

A year-end falling just after peak trading means inventory and other balances are unusually low at that date. Ratios using these figures may misrepresent normal levels during the year. This illustrates that statement of financial position data is a snapshot and may not be representative, a limitation of ratio analysis.

  1. ARatios cannot be calculated from year-end figures
  2. BYear-end statement of financial position figures may not be representative of the balance during the yearCorrect
  3. CRatios only apply to manufacturing companies
  4. DInventory is excluded from the current ratio

Explanation

The statement of financial position shows a single date. If year-end inventory is unusually low because of seasonality, ratios such as inventory holding period and the current ratio will not reflect typical levels through the year. The other options are false statements about ratio analysis.

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