Question

Why does the management of any companies analyze financial statements?

Explain by using Horizontal Analysis , Vertical Analysis, Trend Analysis and Ratio Analysis in analyzing financial statement with proper numerical example ?

Answer 1

Anaysis of Financial Statement -

Industries are surrounded with multiple companies and each with similar product compitition and compititiveness. To If you compete with one corporation in the environment. You want to achive great profit as compare to the similar industry compititors. For better inderstanding of where you are currently standing in the competition and what other compititors are doing you need to analyis the financial statement.

Analysis of financial statement can be performed in different methods -

1. Ratio Analysis

2. Horizontal Analysis

3. Vertical Analysis

4. Trend Analysis

Horizontal Analysis -

Horizontal Analysis is the technique of analysis financial statement horizontally. In this technique there is comparison of two financial statement and derived “Change in” and after deriving income it show the % change in those year.

Horizontal analysis provide explanation about the change as compare to last financial year in the current financial statement. Also provides % change so that one can easily identify the % change in the current year as compare to previous year.

Vertical Analysis -

Vertical Analysis also known as "Common-size financial statements"

Vertical Analysis is the analysis technique of the financial statement. Through this technique investor, Management and Owners of the business can identify the % of base value. In this technique 1 figure is consider as base value and rest of the % change in the financial statement can be derived taking based of that value.

In the income statement base value is considered as "Net Revenue". In the balance sheet "Total Assets" and "Liabilities and Shareholder's Equity".

One can easily understood the change in the percentage with the prior year financials or different company in the same industry.

Ratio Analysis -

Ratio Analysis is the technique of analysis some financial aspects of the entity. Which is very meaningful and useful to make decisions based on the ratio derived. Through ratio analysis one can understand the profitability, Efficiency, Solvency, Liquidity.

Trend Analysis -

Trend analysis is the technique of analysis of the current trend and on the basis of current trend management attempt to predict the future changes to be happend based on the current prediction.

For Example -

If the company earnings 15% profit in the current trend considering expenses to be incurred in the same pattern as they have observed in the current situation. They predict if we follow same pattern in the next year they will have 15% profit in the upcoming year.