Question

Prepare a paragraph to tell us what is horizontal and vertical analysis. State why vertical and horizontal analysis can be of value to any company. How it might apply to your employer/business or other business you know of?

Answer 1

Horizontal Analysis : Under it some selected variables like Purchase, Sales, Revenues, Assets / Liabilities etc., of two or more years are arranged side by side horizontally for 2 years or more. The increase / decrease can be easily located. The percentage change can be found out and the trend can be detected.

Vertical Analysis : Under it the Balance Sheet total is taken as 100. Each liability and asset is expressed as a percentage of the total. From the revenue statement, net sales is taken as 100. Each individual revenue or expense is expressed as a percentage (out of 100).

Then a comparative analysis of the structural relationships like profit to sales or Shareholders’ Equity compared to Total Debts etc., is made. It is a numerical relationship between related figures.Financial Statements convey different pieces of information to different but specific users. They need these mainly for decision making. The users analyse and interpret the statements in their own perspectives and according to their own needs. In the accounting process interpretation of the reported date is the ultimate step. The data conveyed through Financial Statements need proper analysis and interpretation for being usable for decision making. So, Financial Statement Analysis implies analysis and interpretation of the Financial Statements for facilitating the drawing of valid conclusions from the reported facts and figures. It helps to understand the past performance of a firm based on the particular prediction to be made and the overall risk involved for the firm. A financial statement analyst applies different tools of analysis to gauge the financial strength or weakness of a firm. Thereafter, he can proceed to predict about the future of the business and decide the future course of action needed for the general development or improvement. Thus vertical and horizontal analysis can be of value to any company.

In any business, horizontal statement analysis cab be used to prepare comparative financial statements which indicates change in each item of the financial statement. Vertical analysis ab be used to prepare common size financial statements one where all the components of a financial statement are expressed on a common basis. For a meaningful comparison among different components of two or more different companies, their Balance Sheets and Income Statements are common-sized.