Module 7

Financial Statement Analyses and Their Implications to Management

Learning Outcomes:

Upon finishing this session, the learner is expected to:

1. Explain thoroughly the various ways financial statement are analyzed;

2. Explain fully the objectives of financial statement analyses;
3. Discuss the steps in doing financial statement analyses;
4. Explain and distinguish the limitations of financial statement analyses; and
5. Perform the steps in doing financial statement analyses by applying the different
techniques, interpretations, conclusions, and draw the implications based on the results
of the application.

The main purpose of financial Statements is to guide users in making wise, prudent , and sound
economic decisions. However, prior to making decisions, an essential process must be done,
that is to make thorough analyses of the information found in the financial statements.

What is Quantitative and narrative/verbal informatio?

The Quantitative portion, which is made up the FS, presents the assets, liabilities and equity
results, and the results of operations. The verbal/narrative portion of the report explains why
and how those results came to be.

Prudently choosing the data found in financial statement is essential in doing financial
statement analysis. This is done by judiciously probing the information found in the FS. How
one does probe? Doing a longitudinal evaluation of the financial data and analysis of financial
ratios are two and of the many ways by which the analysis can be done. Longitudinal evaluation
involves the horizontal comparison and/or contrast of the financial data involving the least two
periods. It can, however, be pointed out that the analysis need not be on a period-to-period
basis only, but may also involve a company-to-
company financial data analysis. In this case, two more companies can be compared to
determine the performance of the firm vis-à-vis the performance of another company
belonging to the same industry.

At the this point, it is important to point out that a credible financial statement analysis
is a by-product of a good analytic mind and the application of thorough research skills.
Research is important to account for and explain the results of the analyst’s computations. This
person is called a research analyst.

As analyst, you must be able to account for the increase or decrease of these items, which in
your judgement is considered to be salient. This means that you must be able to explain why
these increases or decreases occurred.

OBJECTIVES OF FINANCIAL STATEMENT ANALYSES

Fundamentally, financial statement analyses are set to answer a wide range of

questions of users. These users have diverse concern and objectives. Hence, they have different
priorities. However, all these users have common requirements where the very objective of
financial statements analyses originate.

The analyses aims to probe the company’s:

 PROFITABILITY- this pertainsto the ability of the firm to yield a sufficient aount of return
on company sales assets and invested capita. It also refers to the firms’ capacity to
generate earnings vis-à-vis its expenses and other relevant costs incurred during specific
period of time.
 LIQUIDITY AND STABILITY- Liquidity is also referred to as working capital position or
short-term maturing obligations.
 ASSET UTILIZATION OR ACTIVITY- This pertains to how efficient the company is in
managing its resources. It also refers to the firm’s speed or pace in turning over
accpounts rreceivable, inventory, and long-term assets. This reveals the frequency of
the firm in selling its products or in collecting its receivable. As far a sfixed or long-term
assets are concerned, it reveals how the company uses their fixed assets to yeild
revenue.
 DEBT-UTILIZATION OR LEVERAGE-This pertains to the overall debts status of the
company. It measures the degree of how the firm is financed. The debt is be better
understood by considering the sample analyses found in this chapter.
LIMITATIONS OF FINANCIAL STATEMENT ANALYSIS

The primary purpose of financial statement analysis is to examine the present as well as
the past statement financial position (SFP) and results of oprations (Income statement ) of the
firm in order to determine the best suitable estimate and predict the future state and
performance of the company. With this in mind, it would be fair to state the interpretations of
financial ratios art not ultimately conclusive. Results from the analysis are refutabl.

In addition to this, the main object (financial statement) used for the analysis is also
subject to limitations. These limitations, if not carefully considered, can ultimately bring about
wrong decisions. The inherent limitations of the financial statements, among other things, may
stem from.

1. Its failure to consider changes in the purchasing power, inconsistencies, as well as

dissimilarities in the accounting principles, policies, and procedures used by the firms in
the industry.
2. Its failure to consider changes in the purchasing power of currencie.
3. The age of the financial statements. The older it gets, the less reliable it becomes, thus,
considered as a risk management tool.
4. Its failure to read and undertand the information in the notes to the financial
statements. It may obscure managers in evaluating the degree of risk.
5. Financial statements that have not undergone external auditing procedures. It may or
may not conform with the Generally Accepted Accounting Principles(GAAP) and
standards, thus, usage of these statements may lead to erroneous analysis, and
ultimately erroneous decisions.
6. Financial statements that have not undergone external auditing procedures. It may be
inaccurate or worse, fraudulent, hence, do not fairly present the company’s financial
conditions. Financial measurements from the analysis of these companies are not
dependable and not conclusive.
7. Audited statements that do not guarantee accuracy.

Lastly, the reality that a firm is trading in the stock exchange and that its financial statements
are readily available does not guarantee that the company in question is financially stable and
credit-worthy.
PRACTICAL STEPS IN ANALYZING FINANCIAL STATEMENTS

There are various ways by which the analysis of financial statements can be done.
The following proposed steps in carrying out the analysis may be used:

1. Determine which of the following objectives previously discussed would be the

coverage of the analysis. It is to evaluate profitability, liquidity, asset activity, or debt-
utilization? Or are you going to evaluate all of them?
2. It will be wise to learn about the retrospective, current, as well as the prospective
conditions of the industry. Other external variables that may have a bearing or
significant effect on the industry may also be considered. This may include socio-
economic and political variable. New laws or mandates, finacial in nature, and changing
or modifying the industry requirements may also be considered. Knowledge of average
prices, or market values of commodities, shares of stocks, and debt instruments in the
industry may be considered.
3. Get to know the firm you are analyzing. Know their mission and vision. Review their
strategic plans and their current statues in the industry and be familiar with their
financial projections. Know all things about the firm which you consider relevant and
may have a bearing on your analysis.
4. Assess and analyze the financial statements. The analyses should cover the salient areas
like the profitability, liquidity or solvency, stability, and operational effeciency of the
firm. One may employ the following methods in analyzing financial statements:
 Horizontal Analysis . Also known as dynamic measure or trend ratios, it
involves the comparison and measurement of financial statements of two or
more periods. This includes statements showing both absolute (monetary
amounts) and relative (percentage) changes, financial trends for successive
statements, and special analysis of absolute changes in the financial statements.
 Vertical Analysi. Also known as static measure or structural ratios, it
includes a comparison 0f financial data for only one period. It involves
comparing and establishing the relationship of the components of the financial
statements. For instance, cash and all other assets are individually compared to
the liabilities and shareholders’ equity. Financial ratios for the statement of the
financial position and/ or the income statement are done. Do common size
statements.
5. After finishing the “dirty” work of computing the trends and ratios comes a more
important task: interpreting the results of the computations and ratios.
 6. Draw conclusions from the interpretations made in step five. The conclusionsmust
take into consideration the objectives set up in step number 1.

HORIZONTAL ANALYSIS OF COMPARATIVE STATEMENTS

In the field of accounting, it has been a requirement by the GAAP to present

comparative financial statements for the current year and the previous year. For obvious
reasons, this facilitates comparison of the company’s financial position and results of operation.
This serve as a sound start for analyzing financial statements by horizontal analysis.

In horizontal analysis, the balance of the accounts in the financial statements of the
previous year is subtracted from the current year. This would result to a change – either a
growth or a reduction. The percentage of change is then computed as follows:

Percentage of change= Amount of growth/recduction 𝗏change

x 100
Amount ∈the base year𝗏 previous year
RIEL CORPORATION
Comparative Statements of Financial Position
December 31, 2025
Increase (decrease)

2025 2024 AMOUNT PERCENT

Assets
Current Assets
Cash & Cash Equivalent 106, 789 102, 375 4, 414 4.31
Trade & Other Receivables 327, 467 277, 467 50, 144 18.07
Inventory 334, 863 297, 654 37, 209 12.50
Prepaid Expenses 101, 565 114, 813 (13, 248) 9.91
Total Current Assets 870, 828 792, 309 78, 519

Noncurrent Assets
Property, Plant & Equipment 135, 754 166, 481 (30, 727) (18.46)
Intangibles 7, 500 7, 500 0 0.00
Total Noncurrent Asset 143, 254 173, 981 (130, 727) (17.66)
TOTAL ASSETS 1, 014, 062 966, 290 47, 792 4.95

Liabilities and Shareholders’ Equity

Current liabilities
Trade & Other Payables 238, 000 208, 703 29, 297 14.04
Unearned Revenues 107, 508 82, 456 25, 052 30.38
Notes Payable- current 45, 000 45, 000 0 0.00
Total Current Liabilities 390, 508 336, 159 54, 349 16.17
Noncurrent Liabilities
Notes Payable- Noncurrent 208, 422 253, 500 (45, 078) (17.78)
Total Liabilities 598, 930 589, 659 9, 271 1.57
Shareholders’ Equity
Preference Shares
₱100 Par 105, 000 105, 000 0 0.00
Ordinary Share, ₱1 Par 15, 000 15, 000 0 0.00
Premium On Ordinary Shares 135, 000 135, 000 0 0.00
Total Paid-In-Capital 255, 000 255, 000 0 0.00
0
Retained Earnings 160, 152 121, 631 38, 521 31.67
Total Shareholders’ Equity 415, 152 376, 631 38, 521 10.23
TOTAL LIABILITIES & 1, 014, 082 966, 290 47, 792 4.95
SHAREHOLDERS’ EQUITY
RIEL CORPORATION
Comparative Income Statement
For The Years Ended December 31, 2025-2024

Increase (decrease)
2025 2024 AMOUNT PERCENT

Sales 1, 007, 2, 732, 712 275, 175 10.07

887
Less: Cost of Goods Sold 2, 208, 1, 964, 865 243, 655 12.40
520
Gross Profit 799, 367 767, 847 31, 520 4.10
Less: Distribution Costs 372, 000 345, 000 27, 000 7.83
Administrative Expenses 207, 000 213, 000 (6, 000) (2.82)
Total Operating Expense 579, 000 558, 000 21, 000 3.76
Operating Income 220, 367 209, 847 10, 520 5.01
Less: Interest Expense 41, 860 43, 905 (2, 045) (4.66)
Net Income Before Taxes 178, 507 165, 942 12, 565 7.57
Less: Income Tax 62, 477 58, 080 4, 397 7.57
Net Income After Taxes 116, 010 107, 862
Dividends:
Preference Shares 8, 400 8, 400 0 0.00
Ordinary Shares 60, 000 48, 000 12, 000 25.00
Total Dividend Paid 68, 400 56, 400 12, 000 21.28
Net Income Closed to Retained 47, 630 51, 462 (3, 833) (7.45)
Earnings
Retained Earnings, January 1 112, 522 70, 169 42, 353 60.36
Retained Earnings, December 31 160, 152 121, 631 38, 520 31.67

LIQUIDITY AND SOLVENCY

To measure liquidity, you can focus more closely on the working capital items of
the statements of the financial position (SFP). In doing the analysis, salient changes
must be given with due consideration and must be accounted for. Part of being
thorough with the analysis is by establishing links between related accounts across
financial statement. For instance, the increase or decrease in accounts receivable may
have a bearing on the sales, or the increase/decrease in inventory may have a bearing
on the cost of sales.

In the given example above, it can be noted that there is an increase in the
current assets (9.91%) and the current liabilities (16.17%). However, it can be seen
that the increase in the current assets is less than the increase in the current liabilities.
The increase in the current assets is mainly due to the increase in the trade and other
receivables (18.07%) and the inventory (12.5%). This could be related to the increase in
sales (10.07%)

[Note: the increase in accounts receivable and inventory is much higher than the
increase in sales. This can be interpreted to mean that the inventory and
receivables had a slow conversion into cash.]

STABILITY or LONG-TERM FINANCIAL POSITION

Under this, you can focus your analysis by considering Riel’s capital
attribute. It can be noted that the growth in total liabilities (1.57%) is much
lower than the growth of the firm’s total shareholders’ equity (10.23%). This can
be accounted for by the marked increase in the firm’s retained earnings, this
growth could be attributed to the firm’s income growth of 7.57%.
Riel’s property, plant and equipment carry a value diminished by 18.46%.
this could be accounted for by considering depreciation of the fixed assets.
Based on the analysis it could be inferred that Riel Corp. has stabilized its long-
term financial position.

OPERATING EFFICIENCY AND PROFITABILITY

In analyzing this, the income statement is used. There is a marked
favorable increase in sales (10.07%) however, this is negated by the greater
increase in the CGS (12.40%). The sales revenue (selling price and sales
volume) and the CGS (current purchases and inventories) these are the
elements that made up of the two. If the sales growth is lower than the CGS
means that the company is failing to adequately adjust their selling price to
cover the CGS. The higher growth rate of the latter means the company may
acquire inventories at higher prices and failed to consider more reasonable
prices.
The decrease in administrative expenses (-2.82%) is noteworthy; the
company has efficiently and successfully controlled its expenses. On the
other hand, decrease in the note payable (17.78%) may indicate early
payment of the debt, which resulted to decrease in interest expense (-
4.66%).
In general, it can be inferred that the operating performance of the Riel
Corp. has proven to be favorable as supported by the increase in net income
of 7.57%.

VERTICAL ANALYSIS USING COMMON-SIZE STATEMENT

 This uses percentages/ratios that present the relationship of diff.
accounts or items in the financial statements. The analyst chooses a base
figure and calculates each item’s percentage. Vertical analysis presents the
relative size of an account in proportion to the whole (which is the base). The
outcome of the percentages will be presented in the common-size statement
also known as the component percentage or 100 percent statement, through
this, management can have a better understanding of the changes to the
total assets (for SFP) or net sales/net operating revenue (for income
statement).
Note: the underlined words are the base used for SFP AND IS.

PRATICAL TIPS IN ASSESSING THE FINANCIAL STATEMENTS:

VERTICAL ANALYSIS

1. The allocation of assets in percentage form is disclosed in the common-size

statement of financial position. The percentage which show the relationship of an
account to another base can also be compared to the competitors in the same
industry and can help analyst determine whether or not the firm has over or
underinvested in an item in the SFP.
2. This shows the firm’s capital structure by presenting the percentage allocation of
assets in terms of how much percent was borrowed and how much percent the
owners invested.
3. The current asset percentage may be compared with current liabilities percentage
to ascertain the firm’s liquidity and solvency.
4. It also presents the percentage relationship of sales to all the other items in the
income statement. The COGS ratio, the gross profit ratio and the net profit ratio
among the salient ratios revealed using the common-size statement. Doing the
longitudinal analysis of these ratios can help the management improve efficiency.

Below is an illustrative example of a common-size of comparative statement of

financial position using Riel Corporation’s financial statement.
Riel Corporation
Common-Size Comparative Statement of Financial PositionDecember
31, 2024 and 2025

COMMON SIZE

PERCENTAGES

2025 2024 2025 2024

Assets

Current Assets

Cash & Cash Equivalent 106,798 102,375 10.53 10.59

Trade & Other Receivable 327,611 277,467 32.31 28.71

Inventory 334,863 297,654 33.02 30.80

Prepaid Expenses 101,565 114,813 10.02 11.88

Total Current Assets 870,828 792,309 85.87 81.99

Noncurrent Assets

Property, Plant, & Equipment 135,754 166,481 13.39 17.23

Intangibles 7,500 7,500 0.74 0.78

Total Noncurrent Assets 143,254 173,981 14.13 18.01

Total Current Assets 1,014,082 966,290 100.00 100.00

Liabilities and Shareholder’s

Equity

Current Liabilities

Trade & Other Payables 238,000 208,703 23.47 21.60

Unearned Revenues 107,508 82,456 10.60 8.53

Notes Payable – Current 45,000 45,000 4.44 4.66

Total Current Liabilities 390,508 336,159 38.51 34.79

Noncurrent Liabilities

Notes Payable – noncurrent 208,422 253,500 20.55 26.23

Total Liabilities 598,930 589,659 59.06 61.02

Shareholder’s Equity

Preference Share

P100 par 105,000 105,000 10.35 10.87

Ordinary Share’s, P1 par 15,000 15,000 1.48 1.55

Premium on Ordinary Shares 135,000 135,000 13.31 13.97

Total Paid on Capital 255,000 255,000 25.15 26.39

Retained Earnings 160,152 121,631 15.79 12.59

Total Shareholder’s Equity 415,152 376,631 40.94 38.98

TOTAL LIABILITIES &

1,014,082 966,290 100.00 100.00
SHAREHOLDE’S EQUITY

Riel Corporation
Common-Size Comparative Statement of Financial PositionDecember
31, 2024 and 2025

COMMON SIZE

PERCENTAGE

2025 2024

Assets
Current Assets

Cash & Cash Equivalent 10.53 10.59

Trade & Other Receivables 32.31 28.71

Inventory 33.02 30.80

Prepaid Expenses 10.02 11.88

Total Current Assets 85.87 81.99

Noncurrent Assets

Property, Plant, & Equipment 13.39 17.23

Intangibles 0.74 0.78

Total Noncurrent Assets 14.13 18.01

TOTAL ASSETS 100.00 100.00

Liabilities and Shareholder’s Equity

Current Liabilities

Trade & Other Payables 23.47 21.60

Unearned Revenues 10.60 8.53

Notes Payables – current 4.44 4.66

Total Current Liabilities 38.51 34.79

Noncurrent Liabilities

Notes Payables – noncurrent 20.55 26.23

Total Liabilities 59.06 61.02

Shareholders’ Equity

Preference Shares

P100 par 10.35 10.87

Ordinary Shares P1 par 1.48 1.55

Premium on Ordinary Shares 13.31 13.97

Total Paid-in-Capital 25.15 26.39

Retained Earnings 15.79 12.59

Total Shareholders’ Equity 40.94 38.98

TOTAL LIABILITIES & SHAREHOLDERS’

100.00 100.00
EQUITY

Riel Corporation
Common-Size Income Statement
For the years ended December 31, 2024 and 2025

COMMON SIZE

PERCENTAGES

2025 2024 2025 2024

Sales 3,007,887 2,732,712 100.00 100.00

Less: Cost of good sold 2,208,520 1,964,865 73.42 71.90

Gross Profit 799,367 767,847 26.58 28.10

Less: Selling Expenses 372,000 345,000 12.37 12.62

Administrative Expenses 207,000 213,000 6.88 7.79

Total Operating Expenses 579,000 558,000 19.25 20.42

Operating Income 220,367 209,847 7.33 7.68

Less: Interest Expenses 41,860 43,905 1.39 1.61

Net Income before taxes 178,507 165,942 5.93 6.07

Less: Income Tax 62,477 58,080 2.08 2.13

Net Income after Taxes 116,030 107,862 3.86 3.95

Riel Corporation
Common-Size Income Statement
For the years ended December 31, 2024 and 2025

COMMON SIZE

PERCENTAGES

2025 2024

Sales 100.00 100.00

Less: Cost of good sold 73.42 71.90

Gross Profit 26.58 28.10

Less: Distribution Costs 12.37 12.62

Administrative Expenses 6.88 7.79

Total Operating Expenses 19.25 20.42

Operating Income 7.33 7.68

Less: Interest Expenses 1.39 1.61

Net Income before taxes 5.93 6.07

Less: Income Tax 2.08 2.13

Net Income after Taxes 3.86 3.95

Financial Statement Analysis – Riel Corporation
Vertical Analysis

The assessment of the statement of financial position using vertical analysisreveals

the following:

Statement of Financial Position

The common-size statement has both periods of the firm’s current assets. The analysis
statement of the current assets made up for inventory (33.02%) and second by
receivable (32.31%). Inventory has a least liquid under the current assets category. The
analyst must have to account a proportion. The growth increased for receivable
percentage to be accounted for the sale revenue.

The decrease in percentage allocation for property, plant, and equipment has been
noted. It can caused by depreciation, mentioning the management, if the circumstances
call for it.

The liability percentage (59.06%) is higher than the shareholder’s equity percentage
(40.94%). That means that the assets were financed by borrowing. The liabilities in 2024
(61.02%) to 2025 (59.06%) has been decreased, it indicates that the firm is shifting to
dependence of financing from borrowing to use the owner’s investment. This can
indicates of its long-term of financial position.

The owner’s equity is considered as the margin of the safety by the creditors. Creditors
are happy when the owner’s equity is high. The amount of the owner’s equity can
absorb the declined assets. If the assets of the company decline, the owner’s equity is
the amount that can be used to pay the creditors.

Income Statement

The high percentage in CGS (73.42%) was notice for not favorable to sales. The sales
revenue is used to cover the cost of selling. The horizontal analysis,
 management was determine to establish measures of the remedy. The gross profit ratio
decreased in 2025 (26.58%) compared in 2024 (28.10%). This also increase in the cost of
goods sold ratio.

The operating expenses ratio is favorable of firm has decreased. The firm’s efficiency is
indicates in controlling the operating expenses. The net income ratio (3.86%) is
favorable indicates in the company earned year. The analysis was indicate to the
decreased net income ratio. The CGS ratio, increased was accounted for unfavorable,
It’s too high to be offset for favorable result from the decreased in operating expenses
ratio.

Implications to Financial Management

Based from the analyses, interpretations, and conclusions, the following

implications may be culled:
The company’s cycle movement is slow due to conversion and receivable needs.
Improve the new policies to encourage the receivable. The receivable was
establish in a strict and assertive measure to increase the new strategies of
inventories need.
The firm’s capital structure leaning toward equality due to company’s favorable
of operation is maintained. The balance between liabilities and owner’s equity
has both potential creditors and owners.
Lower the measure of cost and goods to increase the sales revenue to cover CGS
issues must be drawn as soon as possible. This would help improvethe 7.75%
growth of net income for the succeeding periods. Improve the measures of cost
and expenses and make sure the measure is strictly implemented.
There is a need to consistently monitor implementation of measures and
policies to assure continuous improvements of said measures and
implementation procedures.

TREND ANALYSES

The longitudinal modification of horizontal and vertical trend analysis. The percentage
has change for several successive of two-year period horizontal analysis. The two-year
period horizontal analysis is the present long run of the company’s progression.
 The base period amounts (oldest year) is 100% written. The percentage of each account
is the statement computed by dividing each amount by the base year figure. Comparing
the percentage relationship base on the trends, interpretation, conclusion and
implication may be drawn.

NICO CORPORATION COMPARATIVE INCOME STAMENTSFOR THE

YEARS ENDED DECEMDER 31, 2021 TO 2025
2021 2022 2023 2024 2025

Sales 1,710 1,722 2,415 2,700 3,001

Less : Cost of good sold 1,252 1,300 1,699 1,930 2,200

Gross Profit 458 422 716 770 801

Less :Distribution Costs 228 237 370 424 510

Administrative Expenses 100 109 160 165 188

Total Operating Expenses 328 346 530 589 698

Operating Income 130 76 186 181 103

Less: Interest Expense 19 15 15 24 16

Net Income before taxes 111 61 162 161 87

Less: Income Tax 39 21 57 56 23

Net Income after taxes 72 40 105 105 64

TREND ANALTSISSTAEMENTS OF FINANCIAL POSTION

2021 2022 2023 2924 2025

Assets

Current Assets

Cash & Cash Equivalent 100 209 211 263 295

Trade & other Receivables 100 36 37 37 44

Inventory 100 76 87 101 110

Prepaid Expenses 100 113 124 139 131

Total Current Assets 100 116 121 131 129

Noncurrent Assets 100 95 103 115 118

Property, Plant & Equipment

Intangibles

Total Noncurrent Asset 100 152 164 169 169

TOTAL ASSETS 100 152 164 169 169

100 115 124 134 136

Liabilities and Shareholders’ Equity

Current Liabilities
Trade & Other Payables

Unearned Revenues 100 94 90 78 48

Notes Payable-current 100 185 154 111 74

Total Current Liabilities 100 26 35 50 42

Noncurrent Liabilities 100 96 89 78 73

Notes Payable- noncurrent

Total Liabilities 100 163 147 139 122

Shareholders’ Equity 100 118 109 99 90

Preference Shares

P100 par

Ordinary Sharers P1par 100 121 146 146 146

Premium on Ordinary Shares 100 181 252 252 252

Total Paid- in- capital 100 130 160 160 160

Retained Earnings 100 79 83 150 177

Total Shareholders’ Equity 100 113 134 157 166

TOTAL LIABILITIES & 100 115 124 134 136

SHAREHOLDERS’ EQUITY

Trend Analysis of Income Statements

 2021 2022 2023 2024 2025

Sales 100 101 141 158 175

Less: Cost of good sold 100 104 136 154 176

Gross Profit 100 92 156 168 175

Less: Distribution Costs 100 104 162 186 224

Administrative Expenses 100 109 160 165 188

Total Operating Expenses 100 105 162 180 213

Operating Income 100 58 143 139 79

Less: Interest Expenses 100 79 126 105 84

Net Income before taxes 100 55 146 145 78

Less: income Tax 100 54 146 144 39

Nat Income after taxes 100 56 146 146 89

LIQUIDITY AND SOLVENCY

The trend analysis matrix shows the improving net working capital [current asset current
liabilities] status of Nico Corporation. The upward trend of the firm’s current assets and the
downward trend of the current liabilities support. The consistent increase of the trade and
other receivables is supported by the upward trend of sales revenue.
The trading securities from the base year [208] to the next [75] and succeeding figures may
indicate the company’s strict concern about using their funds wisely by diverting cash to higher
yielding assets. Based on the result. Theses result could be accounted for by a number of
factors,
Efficient use of assets that lead to consistently improving sales.Better
collection of receivables.
 Quicker conversion of inventories and receivables cash.
STABILITY AND LONG-TERM FINNACIAL POSITION
For long –term financial position, the analysis should focus on total liabilities as shareholders
‘equity. However it is noticeable that the liabilities exhibit a downward trend .Inversely, the
shareholders ‘equity exhibits an upward trend.

OPERATING EFFICIENCY AND PROFITABILITY

In analysing profitability, the trend matrix disclosed a favourable upward trend in sales. Deep
analysis shows that the rate of increase sales in more rapid than the increase of the cost of
goods sold. The fast upward in sale and slower upward trend in the cost of sale, may be a result
of efficient pricing policies, pricing strategies and efficient cost control systems in acquiring
inventories.
Note the unfavourable upwards in the operating expenses more unfavourable is the noticeable
fact that rate of increase of the operating expenses is faster than that of sales revenue more
income if they were able to have better control of their operating expenses.
Implication to Financial Management
As evidence by the analysis, efficient working capital management should be an
essential concern of the firm, as this would assure fortified solvency position.
To secure the firm’s stability or a favourable long – term financial position, management
should be mindful of the creditor’s margin of safety.
The firm would be able to consistently improve financial yields by adopting innovative
and efficient marketing and distribution policies to ensure increase revenue.

ANALYSIS OF COMPANY CASH FLOWS

It has been a standard practice of financial managers to use financial statements, more
specifically accrual based ones (Statement of Financial Position and Income Statement), in
analyzing company financial condition and their results of operations, and it is important to
remember that the main concern of any financial manager would be the company’s cash flows.
As a review, we already know that Cash Flow Statements present cash flowing into and out of
the company from their operating activities, investing activities, and financing activities.
 It is pivotal to systematically and consistently examine company cash flows, as this
would help management determine as to how much the entity is worth. One way by which cash
flow may be tracked is by the use of Free Cash Flow (FCF).

FREE CASH FLOW (FCF)

Free Cash Flow pertains to the residual amount of cash flows after using cash to pay or
cover the company’s cost and expenses from operation and those used to pay for company
investments (current or short-term investments and noncurrent or long-term investments). It
can be said that FCF is the amount of cash a business entity generates after deducting the
entity’s capital expenditures like acquisition of land, building, or equipment, in accounting
these items are aptly categorized in an account called “Property, Plant, and Equipment.”
There are assertions that stock exchanges are very much delving and focused on
company earnings while giving very little concern on the actual cash generated by the
company. Company earnings are subjected to a number of accounting-related tactics and ploys
that may render them “contaminated.” However, this is not the case with cash flow, it is more
difficult to forge company cash flow; because of this, some investor believe that FCF provides a
better view of the company’s ability to generate cash and ultimately provide an
“uncontaminated” version of company income.
There are times that the FCF can be negative. This however, should not be automatically
viewed as something bad. Negative cash flows may mean that the company is making
significantly large amount of investments. If aid investment yield higher return,the strategy may
prove to be more beneficial for the company in the future.
The residual cash (FCF) after capital expenditures can now be used for expansion,
payment of dividends, payment of debt, and other disbursement necessary for the entity’s
operation. The basal formula created from this narrative description of FCF would be:
FCF = Total Cash Available – Operating Costs and Expenses – InvestmentCosts
Based on this formula, we can say that we need to do two things to arrive at the FCF:
Determine the cash flow from company’s operation or operating activities cash flow
(OACF)

OACF = Company Net Income Before Taxes – Taxes + Depreciation +Amortization +

Depletion
Depreciation, amortization, and depletion are added back because these werededucted
the company’s net income and yet they entail no cash outflow. In essence,
 by doing these, we are converting the company’s net income (which is accrual- based)
into a “pure cash-based” net income.

Compute the cash flows from the company’s investing activities or investing activities cash
flows (IACF). The cash flows from investment can be represented by the ∆ as a change
symbol.

∆PPE – pertains to changes in the entity’s fixed asset or property, plant, and equipment
account. The changes in this account would mean acquisition or disposal of fixed assets.
The acquisition and disposal is categorized as an investment activity, because as we know,
acquisition of land, building, and other properties is an investment. This may also include
other long-term assets like intangibles.

∆CA – Refers to changes in the entity’s current asset account. This would indicate changes
in short-term investment.

∆AP – Refer to changes in the entity’s account payable.

∆AE – Refers the changes in entity’s accrued expenses.

It is important to emphasize that these items, specifically the changes in AP and AE

are considered as spontaneous current liabilities. This means that they come to exist
spontaneously with changes in sales. These two items are subtracted from the total
changes in current assets to get the remaining changes in short-term investments.
All these changes can be computed by examining a two-dated or comparative
statement of financial position of a company and deducting the amount of the two
periods for the company’s PPE, CA AP, and AE.
The difference (result of subtracting the amounts from the two periods) can be
applied on the improved formula of the FCF below.

FCF = OACF - ∆PPE – (∆CA - ∆AP - ∆AE)

Using the figures taken from Riel Corporation’s comparative financial statements,
we can compute the company’s FCF for 2020 as follows (in the Philippine peso):
Assume the company’s operating expenses include depreciation of ₱10,000.

Step 1: Compute OACF

OACF = Net Income – Taxes + Depreciation

 OACF = 178,507 – 62,477 + 10,000 (assumed figure)
= 126,030

Step 2: Compute IACF

∆PPE = 143,254 – 173,981
= -30,727
∆CA = 870,828 – 792,309
= 78,519
∆AP & ∆AE = 238,000 – 208,703
= 29,297
FCF = 126,030- (-30,727) – (78,519 – 29,297) = 46,081

This FCF would mean that Riel Corporation ha ₱46,081 as free cash flow, which the entitycan use
to pay investors who give them equity and debt financing (Smart 2011)