CHAPTER ONE
1.0 INTRODUCTION
1.1 Background
of the Study
The
complex nature of today’s business world and the transformation of the entire
world into a global village have been of great concerns to manage all forms of
business organizations. According to Ojuigo (2001), the problems of managers
are multi:-varied because of inefficiency in management of poor decision
outcomes of these organizations. Therefore, the managers are unable to achieve
the organizational objective within a period of time.
As
diverse as business is, its controllable and uncontrollable factors influence
all decisions which ultimately lead to the realization of set objectives. To
achieve this, management needs reliable, authentic and relevant information
from the financial statements to efficiently facilitate decision making.
It
must be noted that every business stores at making at least from investments
“sustainable profits” so as to stay afloat and continue in business. Therefore,
profit being the concern of every manager is a factor in business. To achieve
this, available information from the financial statements of organizations must
be analysed, interpreted and used as a basis for decision making (Needham and
Dransfield 1991). Financial statement analysis is often considered as a vital
tool used in evaluating a company’s performance and ensuring that decisions are
based on facts rather than rule of thumb.
A
financial analyst needs financial statements of companies to be able to
identify operating and financial problems which may affect the companies (Mbat,
2001:60). Thus, any person who analyses the financial statements of firms
should be able to identify the cause and effect of financial and operating
problems of such firms.
The
cause of any financial or operating problem is an event, which produces an
effect (the problem). However, in order to identify the cause and effect, the
system, which represents an indictor f the problem, should be observed. This
process is referred to as interpretation (Pandey, 2005). According to (Mbat,
2001), it is the responsibility of the financial manager or analyst to enable
them make better management decisions.
The
symptoms could be:
-
Declining liquidity
-
Declining profit
-
External debt recovery period
-
Increased volume of inventory
-
Declining return on total assets
-
Increasing operating expenses etc
The
identification of causes should also be important in order to appropriately
evolve corrective measures.
Financial
analysis and interpretation assist in the:
-
Identification of organizational performance through the use of analystical
data.
-
Identification of empirical relationships between operating results and those
items which have influenced the achievement of the results.
-
Identification of historical data order to determine which internal or external
factors have exerted positive or negative influence on the operating results
(Mbat 2001).
Categorically,
there are three forms of financial analysis. These include: multivariate,
univariate and ratio analysis (Welsh, 2007). Moreover, ratios are the end
results of basis analysis. The ratio requires an interpretation on the basis of
their trends and in the lights of what is known of the business as a young
concern. It should be noted that financial statements represent the positions
of a firm at a particular point in time.
However,
the success or failure of a business depends largely on the quality of
decisions made by management, which in turn depends on reality of accounting
information available on them. Research into this area is quite relevant given
the apparent investment failures experienced by many business organizations.
The collapse of many business either private or public is due to poor decision.
The question is whether management has used information provided in the
financial statement extensively to enable rational decision making?
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