Question

Explain why an analyst should reformulate a firm’s financial statements before performing a valuation of the firm.

Answer 1

It is the responsibility of the management of an organization to prepare and present the financial statements. Thus, the management being the internal party to the organization often uses favourable accounting principles and policies to formulate the financial statements of an organization. Thus, though the objective of financial statements are to reflect the true and correct picture of an organization often the financial statements are not free of biased as the management is responsible to prepare such statements.

Hence, for an analyst who has been given the responsibility to ascertain the value of a firm would be better off to reformulate a firms’ financial statements before performing valuation of such firm. This would help the analyst to correctly value the firm based on unbiased financial data of such reformulated financial statements. Thus, often an analyst reformulate the financial statements of a firm to perform valuation such firm. In short the valuation of a firm would be more accurate and without any biased if the financial statements are reformulated by the analyst.