4.5 Limitations of Ratio Analysis
The financial ratios discussed in this chapter are very useful tools for assessing a firm’s financial condition. That said, those who work with financial ratios need to be aware of their limitations. Some of the more noteworthy problems are as follows:
Picking an industry benchmark can sometimes be difficult. It is sometimes difficult to determine the industry to which a firm belongs. This problem is particularly difficult if the firm you are analyzing operates in multiple lines of business and consequently in multiple industries. In this case, you must select your own set of peer firms and construct your own norms. For example, General Electric Company (GE) operates as a technology, media, and financial services ...
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