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Book Contents

Ch. 9
Building Model-Driven Decision Support Systems

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Ratio Analysis

Financial ratio analysis is a process where an analyst or manager evaluates a firm's financial statements. Even though accounting differences can distort financial results, ratio analysis can be useful in a number of ways and a Model-Driven DSS can assist in ratio analysis.

First, ratio analysis can aid in interpreting and evaluating company and competitor income statements and balance sheets by reducing the amount of data contained in them. After computing key ratios, a DSS can support a comprehensive analysis of a firm's financial position. For example, a DSS can show a time series of sales growth or a table of key ratios.

Second, financial ratio analysis can make financial data more meaningful. Any ratio shows a relationship between the numbers in its numerator and denominator. By selecting sets of numbers that are logically related, only a few ratios may be necessary to comprehensively analyze a set of financial statements. Lenders and some investment analysts use ratio analysis.

Third, ratios help to determine relative magnitudes of financial quantities. For example, the amount of a firm's debt has little meaning unless it is compared with the owner's investment in the business. Therefore, the debt/equity ratio shows a relationship that lets managers compare relative magnitudes rather than absolute amounts.

Because of these advantages, financial ratio analysis can help managers or business analysts make effective decisions about a firm's credit worthiness, potential earnings, and financial strengths and weaknesses.

There are many other specific accounting and financial models that can be incorporated in Model-Driven DSS. For example, cost-benefit models, portfolio models, and capital budgeting models have been used in DSS. The next section explores a more general categories of models used in analyzing decision situations.

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