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

Which of the following is a limitation of comparing the ratios of two companies in the same industry?

Different accounting policies, such as depreciation methods or inventory valuation, can make reported profits and assets differ between similar companies, so their ratios are not directly comparable. Ratios themselves can be calculated for any size of company, so size is not the limitation.

  1. ARatios cannot be calculated for companies of different sizes
  2. BCompanies may use different accounting policies, such as depreciation methods, which distort comparabilityCorrect
  3. CRatios from published financial statements are always out of date by more than five years
  4. DCompanies in the same industry never share similar business risks

Explanation

Different accounting policies, for example straight-line versus reducing balance depreciation or different inventory valuation, change reported profit and asset values, so ratios are not like-for-like. Ratios are size-neutral, and the other statements are untrue.

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