What is a limitation of financial ratio analysis?

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BlackTom AI · Accepted Answer

Question: What is a limitation of financial ratio analysis?

Option a: Considers nonfinancial information. This is incorrect because financial ratio analysis primarily uses numerical data from financial statements; nonfinancial information is not the core focus of standard ratio analysis, though it can be considered in broader assessments.

Option b: Reflects changes in economic events. This statement is not a limitation; in fact, ratio analysis may lag or fail to fully capture timing or context of economic events, making this a partial critique, but not the best description of a limitation here.

Option c: Focuses on numerical data contained in financial statements. This is a correct identification of a limitation in the narrow view of financial ratio analysis: it relies on historical, quantitative figures and may ignore qualitative factors, nonfinancial indicators, and forward-looking information.

Option d: Provides comprehensive and effective financial analysis. This is incorrect as a limitation; it claims the opposite, suggesting completeness, whereas in reality ratio analysis is only one tool and does not itself provide a fully comprehensive analysis.

Summary: The most accurate limitation among the choices is that financial ratio analysis focuses on numerical data contained in financial statements, potentially overlooking nonfinancial factors and broader context.

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