Field Major Account Essay

517 WordsMay 24, 20153 Pages
Financial Ratios - Uses and Limitations of Financial Ratios Benchmarking Financial Ratios Financial ratios are not very useful on a stand-alone basis; they must be benchmarked against something. Analysts compare ratios against the following: 1.The Industry norm - This is the most common type of comparison. Analysts will typically look for companies within the same industry and develop an industry average, which they will compare to the company they are evaluating. Ratios per industry are also provided by Bloomberg and the S&P. These are good sources of general industry information. Unfortunately, there are several companies included in an index that can distort certain ratios. If we look at the food and beverage ratio index, it will include companies that make prepared foods and some that are distributors. The ratios in this case would be distorted because one is a capital-intensive business and the other is not. As a result, it is better to use a cross-sectional analysis, i.e. individually select the companies that best fit the company being analyzed. 2.Aggregate economy - It is sometimes important to analyze a company's ratio over a full economic cycle. This will help the analyst understand and estimate a company's performance in changing economic conditions, such as a recession. 3.The company's past performance - This is a very common analysis. It is similar to a time-series analysis, which looks mostly for trends in ratios. 1. USE OF FINANCIAL RATIOS How do managers know if their company is operating in an effective manner? One way of determining if the company is doing well is through the use of financial ratio analysis. Ratio analysis provides the manager with a measure of the firm's performance. The primary source of data for calculating these ratios are the company's income statement and balance sheet. Financial ratios also are needed by

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