Financial Statement Analysis
One of the most important steps in business decision making is the financial statement analysis. This process involves analysis and interpretation of financial statements with the help of analytical or financial tools. It is a technique used by investors and creditors to analyse financial statements, it helps them in realizing which business is beneficial enough for investments and loans. Reviewing financial reports to attain an understanding of the organization’s financial situation through facts and figures. Financial statement analysis involves identification of following items:
In order to analyse a company’s performance trend lines are created for key items in the financial statement. Typically trend lines are created for key items like; revenue, the gross margin, net profits, cash, accounts receivable, and debt.
To compare and analyse the relationship between size of various accounts in any financial statement an array of ratios is available for discriminating among them. Proportion analyses helps in examining the revenues and expenses listed on the income statement and the assets, liabilities, and equity accounts listed on the balance sheet.
Profits Plus aims to provide financial statement analysis in order to help you understand the financial circumstances of your business better, hence we believe that financial statement analysis is one of the most powerful tools to keep a check on your business’s financial situation. Although it can also be used to unveil trends in financial.
To ensure that your organization is following correct accounting procedures Profits Plus Accountants follow the steps below to provide financial statement analysis report:
- Variance analysis beneficial for examining income statement, balance sheet items and cash flow statement to recognise all exceptional or unwanted items.
- Percentage highlights in order to observe large changes from one year to next year in order to investigate the reason for such higher percentage.
- Calculation of liquidity, efficiency and profitability ratios and analyse the ratios with the best practice that the companies are using in related industry.
What are the main types of financial statements?
- Balance Sheet – Typically defined as an actual record of the funds being received and used, it explains everything statistically about what your company owns and owes at the end of a given year in the form of 3 sections, including assets, liabilities (debt), and shareholder’s equity.
- Income Statement – Highlights each penny earned by the company along with providing a profit & loss statement to know how much money is grossed and expended due to business operations. Consider a snapshot of a company’s current financial position!
- Cash Flow Statement – Useful in reflecting a company’s exchange of money, sources from where a company has earned revenue (outside world), and on which activities money has been spent the most (between a company) over a specified time. It helps control cash flow successfully for stable financial health.
What are the essential methods or tools used in financial statement analysis?
To have better control over the company’s financial performance, the best techniques used include:
- Horizontal Analysis – To understand the organization’s growth over time and highlight significant changes or unusual happenings in any timeline.
- Vertical Analysis – To have a quick overview of total profits and expenditures in the form of a ratio for highlighting evident fluctuations in financial numbers.
- Ratio Analysis – To evaluate if the organization’s progress is fulfilling expectations by comparing one financial component to another. For instance, debt vs equity or outlays vs earnings.
- Trend Analysis – To investigate trends, the catalyst of those trends, and changing patterns across different periods.
- Cost Volume Profit Analysis – To find the link between sales, cost, and profit by dividing cost in “fixed and variable cost.”
Why is financial statement analysis important for business?
Data obtained after financial statement analysis can help company owners make result-driven decisions. Financial insights on a company’s past results, projections, and goals are valuable to devise strategies that can help them enhance profitability, control cash flow, generate more revenue, and cut down on extra spending.
Moreover, a thorough overhead review is essential for identifying trends, strengths, and weaknesses.
What are the most important financial ratios in financial statement analysis?
- Debt to equity ratio
- Return on equity ratio
- Earnings per share
- Profit margin
- Quick ratio
- Price-to-earnings ratio
- Working capital ratio
How do you define a good current ratio?
Regardless of the nature of your company, “1.2 to 2” is considered a good ratio. It defines that the company has sufficiently 2x more current assets available compared to the liabilities for paying off the debts.
How do you analyse financial statements?
- Start with penning down the activities involved in producing, developing, and distributing the company’s products and services.
- Carry out an in-depth analysis of economic attributes.
- Evaluate every aspect of projects’ investment strategies. Look for the uniqueness your product offers along with the level of profit margins and topographical & industry diversity.
- Collect financial statements and notes, government reports, quarterly or annual records, and other documentation.
- Read the financial statements to appraise its quality per the accounting standards and calculate ratios to ensure that the company only invests in a high profit-making organization.
- Investigate current profitability & conduct a risk assessment by scrutinizing the firm’s activities and investments. It represents the firm’s economic performance.