Certified Valuation Analyst (CVA) Practice Exam

Which statement about ratio analysis is false?

1. It helps in comparing company performance

2. It can be subject to size effects

3. It is always reliable

4. It focuses solely on financial data

The correct answer is: It is always reliable

The statement regarding ratio analysis that is false is that it is always reliable. While ratio analysis is a valuable tool for evaluating a company's performance and making comparisons over time or against industry peers, it has limitations that can affect its reliability. Factors such as differing accounting practices, the impact of external economic conditions, and the subjective nature of financial reporting can distort the ratios produced. Furthermore, the context in which ratios are interpreted is essential; they do not provide a complete picture of a company's performance and must be used alongside other analyses and qualitative factors. This understanding underscores the necessity of cautious interpretation of ratio data rather than relying on it in isolation, confirming that it is not always reliable. The other statements about ratio analysis are accurate. Ratio analysis allows for performance comparisons across companies, even those of different sizes, by normalizing financial data. However, when comparing firms of significantly different sizes, the ratios may be impacted by size effects, leading to potentially misleading conclusions. Additionally, while financial data is crucial, ratio analysis does not solely focus on it, as qualitative factors and industry conditions also play significant roles in the analysis process.