Question

Why is it so important to compare a firm’s financial statements with those of previous years, those of competitors, and the average of all firms in the imdustry in which the firm operates?

Make examples of evidence that best supports your idea?

Answer 1

It is important for a firm to compare the financial statements with that of previous years to help observe the trend and follow the financial performance of the company. For instance if the company is having a higher debt equity ratio which is continuously increasing over the time, a comparative analysis would help focus on this and how a company can reduce its debt and make it financially strong.

Another reason could be that some factors are to be compared over time. For instance of the firm owing to increased competition has changed the market strategy, it is important to compare the strategy over time and analyse whether the policy is a success or a failure.

The comparison is necessary to be made from the competitors or the average of all firms because comapring with average of all firms gives us the comparison on how our company is performing. It provides a benchmark to assess the performance of the company compared to the overall industry.

Example : If minimum wage has been imposed or strict quality controls have been imposed which have increased the costs of the industry , it becomes important to observe and assess how other firms in the industry have fared for that rule.

So the comparison either within the industry or over time of the company itself is necessary for the assessment of performance.

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