Financial statements are the company’s reports that are prepared by the management, which includes all the relevant information regarding the financial performance of the company, at any point in time. On the other hand, analysis of financial statements includes a process to select, evaluate and interpret all the financial data. Analyzing financial statements helps in assessing a company’s past, present and future. The information gathered then helps various categories of people who are interested in such information like, creditors, investors, management, banks, etc. There are some methods that a company can adopt to make the information simple, presentable and authentic for its users.
Analysis Of Financial Statements
Financial statements comprise income statements, balance sheets, cash flow statements, etc.
- Analysis of Income Statement: The statements contain all the information regarding revenues and expenses. Each expense must be calculated on the basis of the percentage of sales to determine the company’s spending trend that will reflect the strategy of the company. For further analysis of the income statement, non-operative expenses, non-recurring expenses, cost of raw materials (adjusted), and operating ratio must be computed that will reflect the company’s efficiency in controlling costs.
- Analysis of Balance Sheet: The three main pillars of a balance sheet is, assets, liabilities, and equity. Assets help to operate the business and the other two elements support the assets. These three elements must be thoroughly analyzed for determining abnormalities, if any, that can be an indicator of future projections.
- Shareholder’s Equity Analysis: The equity of the company is owned by the shareholders. One needs to thoroughly analyze the equity for determining the company’s solvency position. If the owners’ equity is higher than the debts then the company is solvent and has a promising future.
- Cash Flow Analysis: The statement clearly depicts the way the company procures its cash and how it uses the cash. If the net cash flow is positive then it is a favorable situation for the company and vice-versa.
- Ratio Analysis: The financial statements data helps in building the ratios for financial analysis of the company. Some important ratios for assessing the company’s solvency are liquidity ratios, profitability ratios, leverage ratios, and efficiency ratios.
Some Other Means Of Business Analysis
Apart from financial statements, there are also a few ways to analyze a company’s strategy and position.
- Dividend Payouts: A growing company retains the earnings in order to reinvest in the company. The analysis of the same shall give an understanding about the company’s future strategies.
- Management Discussion and Analysis: Management’s report upon its financial statements provides investors with insights into the past, present and future performances of the company. This undoubtedly helps in forming an opinion about the company. One must, however, not blindfolded believe in the analysis, as it is a thought and not an audit.
- Notes to Accounts: Not everything can be added in the financial statement, therefore, accountants give footnotes. One must not overlook them as they give comprehensive knowledge about the provisions and methods used while preparing the data, or about contingent liabilities.
Conclusion
Up to a great extent, one can rely on financial statements for analyzing a company’s future. But it has its own limitations as well. Hence, we can conclude that financial statement analysis is only one of the many tools available for making an investment decision.
