Question

Q1: Why prospective analysis is considered importance when conducting Financial Statement Analysis?

Q2:Value drivers, explain how these drives are related to financial statement analysis and explain their behavior over time.

Q3: Explain the importance and limitations of current ratio in measuring company’s liquidity (make sure you refer to the effect of each component included in calculating current ratio).

Answer 1

Finaancial statements are the important tools in the analysis of the business reporting it is through the financial statements various decision are made and impact upon the business activity.

1.

Prospective analysis is considered Importance during financial statements

Forcasting finanacial statements is immerative for the management because it can provide a rough guide to the future performance of the firm , it is very important to do some prospective analysis for long term to develop strategies to meet chalanges in environment

Through the prospective analysis free cash flow and residual income model are to be reviewed and estimate of future financial statement

- Management also forecast of finanacial performance and examine the viability of company's strategic plans for future environment

- It is also useful regarding assesment fo dsolvency in which creditors to be accessed a company's ability to meet debt servie requirement , both in short run and long run .

- It also helps to analyse the variable cost and fixed cost and interest burden over the years which would effect gross profit, net profit, and tax impact .

2.

Value drivers

It is an activity or capability that adds worth to a product, service or brand , it refers to those activities or capabilities that add profitability , reduce risk , promote growth of business according to starategic objective

- It is an activity that are likely to have impacton company's success

- There are various types of value driver like growth driver , opertaional driver, or financial driver

- Every driver is require to analyse the data and take effective decision

- Value drivers ar anything that can be added to a product or service which will increase its value to consumer

- This will make more attractive to consumer and product will look different in competitive market

- The greatest benefit of value driver is that it provide compitative advantage to a business and giving business an upper hand in industry

- To continously add value to product and service businesses should constantly monitoring the market and make reputation or goodwill in market

3.

Current ratio:

It is a liquidity ratio that measures a firm has enoughr esources to meet its short term obligation , it compares a firms current assets to its current liabilities , the best current ratio is 2:1 . It is arrived by dividing current assets to the current liabilities , also known as short term solvency ratio  

Importance

- It refers to comparison of current assets to curent liabilities since current liabiliies have to be hounered in time to maintain the reputation and credit worth of organisation

- It help to analyse sufficient current assets to meet current liabilities

- This ratio measures the adequancy of current assets vis-a-vis current liabilities

- Banks also consider current ratio for analysis of clients financial statement

- It is also helpful in minimum cash and bank balance to meet day to day expense

- Debtors and creditors position can also be analysed in this ratio

Limitation

- The main disadvantage is that this ratio is not sufficient indicator of the liquidity of the company

- The company cannot solely rely on the current ratio as it gives little information

- This ratio is unstable in seasonal sales period

- If there is equal change in both assets and liabilities then ratio is change

- This ratio may be impacted due to change in inventory valuation method

- One of the drawback is that inventory may lead to overstatement