FINANCIAL STATEMENT ANALYSIS

INTRODUCTION:
It is important for the manager to understand the finance in debt as it is considered as a language of a business
and one most understand the language to control. Finance is an essential and exciting area of management that
many executives want to discover or explore in more depth. In any organization a manager has to take number
of decisions say it Production related decision, Market related, Human Resource related etc. and the best tool
used to take various decisions are financial statements, which are prepared primarily for decision making. But
the information provided in the financial statement is not an end in itself as no meaningful conclusions can be
drawn from these statements alone. However, the information provided in the financial statements is of
immense use in making decisions through analysis and interpretation of financial statements. In this way,
financial analysis is very important part of the overall function of finance. Financial analysis can be applied in a
wide variety of situations to give business managers the information they need to make critical decisions.
Financial analysis is an aspect of the overall business finance function that involves examining the past
information to draw conclusion and set inferences for the current and future health of a company.

MEANING OF FINANCIAL ANALYSIS It is a process of analyzing the data contained in various financial
statements so that valuable information can be withdrawn to take various decisions related to management.
Financial Analysis helps to analyze the company's accounts and statements which contains a great deal of
information. Discovering the full meaning contained in the statements is at the heart of financial analysis. It is an
analysis that highlights the important relationship in the financial statements and focuses on the evaluation of
past performance of the business firm in terms of liquidity, profitability, operational efficiency and growth
potentiality. Financial statements analysis includes the method use in assessing and interpreting the result of past
performance and current financial position as they relate to particular factors of interest in investment decisions.
Therefore financial statement analysis is an important means of assessing past performance and in forecasting
and planning future performance. The goal of financial analysis is to assess the performance of a firm in the
context of its stated goals and strategy. There are two principle tools which involves assessing how various lines
items in a firms financial statements relate to one another.

THE OBJECTIVES OF FINANCIAL STATEMENT ANALYSIS IN A FIRM:

Financial Statement Analysis is the collective name for the tools and techniques that are projected to provide
relevant information to manager for decision making. The purpose of financial statement analysis is to assess a
company‟s financial health and performance. Financial statement analysis consists of comparisons for the same
company over a period of time and comparison of different companies either in the same industry or in different
industries. Financial statement analysis enables investors and creditors to (a) Evaluate past performance and
financial position, and (b) Predict future performance.

Evaluation of Past Performance and Financial Position

The starting point in the analysis of a company is to look at the record. Past information serves as the base for
the future. For example, trends of past sales, earnings, cash flow, profit margin and return on investment provide
a basis for evaluating the efficiency of a company‟s performance and aid in assessing its prospects. An
assessment of current status will show where the company stands at present, such as the company‟s inventories,
borrowings and cash position. To a large extent, the expectations of investors and creditors about future
performance are shaped by their evaluation of past performance and current position. Individual investors are
often passive and they rarely intervene in the working of a company as long as the company is reasonably
successful. Their evaluations of the company help them assess prospects for their investments, and investors
who are dissatisfied with a company‟s performance will typically sell their shares in the company.

Predict Future Performance

Financial performance analysis helps to predict the future on the basis of previous or last year data which are
available. It is general accepted fact in company organization that in order to decide for the future a company
needs the base year, here base year means previous year. The sales can be predicted for the future on the basis of
past year sales, similarly profit can be estimated for the coming years by using various tools of analysis in which
base year can be taken. Estimating budget is one of the significant functions of company organization and
financial statement analysis play enormous role in estimating budget for the future period.
STANDARDS OF COMPARISONS:
Pertinent Standards are used by an analyst to determine whether the results as per the financial statement
analysis are favorable or unfavorable. For this purpose, comparisons are made with the *General Rule of
Indicators and with the **Past Performance of the Company and *** Industry Standards.
* General rule of Indicators: Financial analyst and bankers use rule of thumb or benchmark financial ratios. Rule
of Thumb measures are useful in making broad comparisons of companies in different industries.
**Past Performance: It is common for financial analyst to compare measure of performance of the company
over a period of time. Seven or Nine year summaries of selected financial data appear in some annual reports. 5
***Industry Standard: The performance of the company can be compared with that of other companies in the
industry. The comparison help overcome the limitations of historical comparisons.

USES OF FINANCIAL ANALYSIS

On the basis of financial analysis one can take variety of decisions in various areas such as security analysis,
credit analysis, debt analysis, dividend analysis, mergers and general business analysis. These are discussed as
follows:
Security Analysis: It is a process by which the investor comes to know whether the firm is fulfilling his
expectations with regard to payment of dividend, capital appreciation and security of money.
Credit Analysis: Such analysis is useful when a firm offers credit to new customer or a dealer. The manager of
the firm would like to know whether to extend credit to them or not.
Debt Analysis: Such analysis is done by the firm to know the borrowing capacity of a prospective borrower.
Dividend Decision: Dividend is that part of the profit which is distributed among the shareholders and financial
analysis helps the firm in deciding about the rate of dividend. Management would have to decide about how
much portion of earnings to distribute and how much to return. Such decisions indicate the profitability of the
firm.
General Business Analysis: Financial Analysis can be used to identify the key profit drivers and business risk in
order to assess the profit potential of the firm. It helps in future growth scenarios for the firm.

(Step by Step Procedure to analysis the

financial statements)
Step-1 Setting objectives by defining the purpose and
context.
Step-2 Collection of necessary information from
different sources
Step-3 Process the data gathered in the second phase to
preparing common-size financial statements and
graphical representation.
Step-4 Conduct analysis on processed data and
interpret the results
Step-5 Develop recommendations in the light of
inferences drawn from analysis conducted and
report/communicate them to relevant personnel.
Step-6 Follow up (Review), if necessary, so that if any
deviation occurs action may be taken to rectify
the same