Skip to main content

Analyzing Financial Statements

By
Whether you are a simple investor, or a decision maker in a company, the ability to understand the performance of a company by analysing the financial data is a mighty useful skill to have.

A Financial statement is a summary of the financial performance of a company. The three main reports in a financial statement are the Balance Sheet, Income Statement and the Cash Flows statement.  
By knowing  how  to  examine  a  financial  report,   you  will  gain  good understanding  of   the  general  trends  and  performance  of   a  business.

One excellent way of analysing a financial statement is through financial ratios.   A ratio is quite simply,   dividing an item with another.

For example, gross profit margin is calculated by dividing gross profit by net sales.   There are different types of   ratios that help one measure the profitability,   liquidity,   debt,   operating performance,   cash flow performance and investment valuation of   a company.  

There are a  number  of   published  ratio  benchmarks  that  will  help  you understand  if   a  particular  ratio  is  red,   green  or  amber. For  example,   the  debt  ratio  is  helpful  in  assessing  the  ability  of   a  firm to  pay  back  long- term  debts.
Debt ratio = Liabilities/Assets
The normal benchmark for debt ratio is 0.6-0.7.   The higher the number, the higher is the debt.   So you know that if the number is very different  from  the  benchmark,   you  got  to  take  a  closer  look.

Another  important  approach  to  understand  the  performance  of   a business  over  time  is  'trend  analysis' .   By analyzing  the movement of   the  same  financial  information  over multiple  periods,  may  give you important signals  -  whether  the  revenue  is  growing  over  the  past period  of   reporting,   whether  costs  are  going  up  or  down,   whether debt  is  going  up  or  down  etc.

Comparing the  financial  performance  of   a  company  against  its  peers is  another  very  useful  indicator  of   relative  performance.

If   you are examining financials data for just one period,   ' vertical analysis'   works best.   The main advantage  of   vertical  analysis  is  that the  information  of   two  companies  can  be  compared  irrespective  of their  sizes.

The following simple example from Investopedia drives home the point:
Suppose XYZ  Corp  has three  assets:  cash  and  cash equivalents  (worth  $3 million) , inventory  (worth  $8 million) , and property  (worth  $9 million) .

If   vertical analysis is used,   the asset column will look like:
Cash and cash equivalents:  15%
Inventory:  40%
Property:  45%

Karthik Ganeshan
Director, BeyondSquare Solutions
karthik.ganeshan@beyondsquare.com

Comments

Post a Comment

Popular posts from this blog

The Mission to Make the CFO's life Easier

By
In today’s business context, life of a CFO is that of the radar as well as the captain of a moving ship. Today’s CFO is expected to contribute well beyond the traditional role of cost management and operational controls. The CFO needs to play a delicate balancing act across multiple dimensions, some of which include: Impact of globalization: having an effective finance function that can account for the increasing complexities of running a global business Regulatory adherence: Global regulatory requirements are constantly changing and continually increasing, and CFOs have a personal stake in regulatory adherence Risk management: the nature of risks that an organization faces keep changing Reporting requirements: managing the ever broadening and often burdensome reporting requirements The CFO needs to do all this, while also keeping a keen eye on rigorous ongoing cost management and operational efficiencies to fuel profitability and strategic reinvestment. All this under...
Post a Comment
Read more

5 Things to Consider Before Investing in a Financial Consolidation Software

By
  In a recent conversation, the Chief Accounting Officer of India’s largest private enterprise mentioned that a good financial consolidation software would be of great service to the accounting community. His statement implying indirectly that in his many years of managing accounting for an extraordinarily large and complex organisation, he has still not come across a suitable enterprise platform for consolidation. It is but natural to assume that organizations would rid themselves of long days of manual financial consolidation and labour-intensive management and statutory reporting. The practice of being strapped to one’s chair and spending long hours into these activities must be shunned. Instead, quality time should be spent on analysis and decision making. Before you dive in to avail the perks of a financial consolidation software, it is crucial to know what to expect from the software. While there are many choices, one must exercise prudence in selecting the one that furth...
Post a Comment
Read more

Getting out of Excel Hell!

By
…and why you should automate your management financial reporting. Excel is one of the world’s greatest desktop tools and many people love it because it is familiar and easy to operate. If you want to analyze a lot of numbers or do some complex modelling on a static dataset, it's hard to beat.I personally am a power user of excel and love the flexibility and ability to model various scenarios easily, and then analyse it. However, running a company involves collaborative, multi-department processes like planning, budgeting, forecasting, and reporting. It involves collating data from multiple source systems and people, curating & transforming it before it is ready for consumption. And that’s where the power of Excel falls short. Weeks are wasted every year, manually consolidating a mass of individual spreadsheets. Errors in cross-linkages, formulae getting converted to hard-coded numbers, manual errors, manual data entry, individuals having to laboriously search their computer...
Post a Comment
Read more