Accountancy 4 Marks Question

"Financial statement analysis is largely a study of relationships among the various financial factors in a business, as disclosed by a single set of statements and a study of the trends of these factors as shown in a series of statements."
Investors and shareholders of the business are interested in the longevity of the business enterprise and therefore, they want to know the earning capacity of the business and its prospects for future growth and prosperity. Analysis of financial statements of a company helps them a great deal in assessing the capacity of the business to pay dividend at a higher rate and also the safety of their investments.

Significance for Creditors: There are two types of creditors,

1. Short-term creditors: Short-term-creditors- want to know the 'liquidity of the business, i. e,. to know whether the company will have sufficient current assets and cash to pay their debts or not. Current ratio and quick ratio calculated on the basis of financial statements help them in assessing this.
2. Long-term creditors: Long-term creditors want to know two things namely:

• Whether the company will be able to pay the interest consistently.
• Whether the company will be able to pay their debts when they fall due.

On the basis of interest coverage ratio they can ascertain whether the company will be able to pay the interest regularly or not and on the basis of debt equity they can ascertain whether the company will be able to pay their debts on maturity.

Affected by Window - dressing: Some firms resort to window-dressing their financial statements to cover up bad financial position on the eve of accounting date.
For example, they may not record the purchases made at the end of the year or they may overvalue their closing stock. In such cases, the results obtained by analysis of financial statements will be misleadingEffect uf Personal Ability and Bias of the Analyst: Figures given in financial statements do not speak by themselves, hence, any conclusion can be drawn from these figures. Conclusions obtained from the analysis of these figures are affected to a great extent by the personal ability and knowledge of the analyst. for example, for calculating 'return on capital' one analyst may consider the profits after taxes, whereas, the other analyst may consider the profits before taxes. Similarly; the term
'Capital' may mean only the 'Shareholder's Funds' for one analyst, whereas the other analyst may take the 'Shareholder's Funds and Long Tenn Debts' as capital.