Financial statements and ratios describe what has already happened in money terms. They cannot show the future, the quality of the product, the mood of the staff or the exact timing of cash. A good answer uses the figures and then says what they leave out.
This lesson completes financial statements and ratios. It builds on comparing ratios across periods and connects to cash flow and finance.
What are the main limits?
- They look backwards. A statement for last year does not tell you what next year will bring.
- They are money only. Customer satisfaction, staff morale, brand reputation and product quality do not appear.
- Profit is not cash. A sale on credit is revenue today, but the cash arrives later.
- Accounting choices matter. Different valuation or timing methods can change the figures.
- Ratios need a benchmark. A 12% margin means little without last year, a similar business or a target.
- The wider market is missing. Competitors, costs, rules and demand can change the picture.
Worked example
Dapur Lena, a catering business in Johor Bahru, invoices RM6,000 in December for a wedding event. It pays RM3,800 in cash that month for ingredients and helpers. The customer will pay in January.
Profit for December = 6,000 − 3,800 = RM2,200.
Cash movement in December = 0 received − 3,800 paid = −RM3,800.
The income statement shows a profit, but the bank balance fell by RM3,800. If Dapur Lena must pay a supplier next week, the profit alone will not tell you whether it can.
Now a case question: “The owner says a profit of RM2,200 shows the business is secure. Evaluate.”
A sound response: “The profit is a useful sign that the event covered its costs.
However, profit is not cash. The customer has not paid, so Dapur Lena is RM3,800 down in cash this month. Whether it is secure depends on when the customer pays and what bills are due first. I would also want to see its cash flow forecast and whether the customer pays on time.”
You can test this with the cash versus profit bridge, which sets profit and cash side by side.
The mistake to watch for
A frequent slip is to treat one ratio as proof of a conclusion.
Mistaken answer: “The profit margin is 14%, so the business is healthy.”
The student used a single ratio without a benchmark, a trend or a mention of cash.
The correction is to say what the ratio shows, then what it cannot show, then what you would need next. A short sentence for each is enough.
Check yourself
1. A shop sells RM9,000 of goods on credit and pays RM5,500 in cash for the stock it sold. Find the profit and the cash movement for the month.
Show answer
Profit = 9,000 − 5,500 = RM3,500. Cash movement = 0 − 5,500 = −RM5,500, because the customer has not yet paid.
2. Give two non-financial factors that a statement of financial position does not show.
Show answer
For example, the skill and motivation of the workforce, and customer loyalty or brand reputation. Product quality and supplier relationships are also acceptable.
3. Why might comparing your ratio with a competitor’s be misleading?
Show answer
The competitor may be a different size, sell different products, use different accounting choices or have a different financing mix. A ratio is only fair to compare when those differences are small, or when you state them.
Where this leads next
Test the whole module with the mixed practice set. If statements feel like a topic you can calculate but not argue, practise ending each answer with what is missing.
A teacher can listen to how you argue a case and tighten it with you. That is the kind of work our online one-to-one Business tuition is designed for. Check the Cambridge subject page for how your exam year (0450 or 0264) words evaluation of financial information.