Limitations of ratio analysis
Following are the limitations of ratio analysis:
Ratios are only means: Ratios are not end in themselves but they are only means to achieve a particular purpose. Analysis of related items must be done by the management or experts with the help of ratios.
Accuracy of financial information: The accuracy of a ratio depends on the accuracy of information taken from financial statements. If the statements are inaccurate, ratios computed based on that will also be inaccurate.
Consistency in preparation of financial statements: Inter firm comparisons with the help of ratio analysis will be meaningful only if the firms follow uniform accounting procedures consistently.
Non-availability of standards or norms: Ratios will be meaningful only if they are compared with accepted standards or norms. Only few financial ratios have universally recognised standards. For other ratios, comparison with standards is not possible.
Change in price level: Ratio analysis may not reflect price level changes and current values as they are calculated based on historical data given in financial statements.
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