CHAPTER
ial Statement Analysis
LEARNING OBJECTIVES
‘of this Chapter would enable students to understand:
g of Financial Statement Analysis a
. ques of Financial Statement Analysis a
Statement Analysis a
tween Horizontal Analysis and Vertical Analysis
nce of Financial Statement Analysis
|Statement Analysis
cial Statement Analysis
cial Statement Analysis
il statements to understand and take economic decisions.
jf Financial Statements is a study of relationships among various financial values
financial statements, i.e, Balance Sheet, Statement of Profit & Loss and Cash Flow
he data given in the financial statements is divided or broken into simp
ements and relationships are established between the interdependent or
‘of the same statement or different financial statements. This process of
§ relationships and interpretation thereof to understand the workir
‘of a business is known as Analysis of Financial Statements
lysis is largely a study of relationships among the various
losed by a single set of statements, and a study of tre
of statements.”
fof financial statements are an attempt to determine the signifi
it data so that the forecast may be made of the prospects for
bt maturities (both current and long-term) a
—Kennedy and Muller
“both ‘Analysis’ and ‘Interpretation’. ‘Analysis’ is
ta given in the financial statements by proper
h explaining the meaning and significance
plementary to each other, ic., analysis is
‘the Liquidity, Long-term Solvency,
fs and other users of financial
potential of the businesAnalysis. 7
his techy
es of one
Period wit
analysis (i.¢,
and size),
» COMpariso,
mean statements in , hi
Placed side }Financial Statement Analysis 2.3
TYPES OF FINANCIAL STATEMENT ANALYSIS
Financial Statement Analysis can be classified into four categories:
External Analysis
External Analysis is conducted by those who do not have access to the detailed records
| of an enterprise and, therefore, have to depend on published accounts, i.c., Statement of
Profit & Loss, Balance Sheet, Directors’ and Auditor's Reports. Such type of analysis is
made by investors, lenders, creditors, government agencies and research scholars.
| Internal Analysis
(Internal Analysis is conducted by the management to know the financial position and
operational efficiency of the organisation. The important feature of such analysis is that
\) the management has access to all information of the enterprise and, therefore, the analysis
| 4s more detailed, extensive and accurate.
dout b ‘outsiders such as creditors, lenders, bankers, debentureholders and government
for management.
§ made to review and analyse financial statements for a number of years.
‘Analysis. It shows comparison of financial data for several years
@ It is useful for trend analysis and long-term planning. Comparative
jarative Financial Statements are examples of horizontal analysis
inst
and analyse the financial statements of one year only. It is
ysis of the financial statement relating to a particular
Of analysis, Such an analysis is useful in comparin
of the same type or divisions or departmentsvariables of an enterprise o,
It is also called Time Series
ver a
Pe
Anaj
10%
‘declining over a period of last 5 a
“observe the behaviour of the same aii, a
Performance and position of 1
he fin
enterprises or firms is kno
Wn as
variables of two or more enterprises o,
ingle set of statements of two fimsre IM
ncial Statement Analysis 2.5
Analysis |
ative financial data are then analysed with reference to financial characteristics
Compa
ike profitability, solvency and liquidity
interpretation
Pieconciuding part of financial statement analysis is interpretation of financial information
generated in the process of financial statement analy The interpretation should be
feet and directed towards indicating the movement of various financial characteristics
D SIGNIFICANCE OF FINANCIAL STATEMENT ANALYSIS
sted groups for various purposes. Financial
e of such analysis:
statements are used by various
the following purposes and bring
Earning Capacity or Profitability
linancial analysis, the earning capacity or profitability of an enterprise
In addition, the earning capacity nterprise, in coming years, may
All the external users of financial statements, especially investors and
Pare interested in earning capacity and forecast
Efficiency
(analysis helps to identify the areas where the mana;
they have been inefficient. For example, by using accounting
Telative proportion of production, administrative and
0f unfavourable variation can be identified and reasons
out the significa
rs have been
Solvency of the Enterprise
venterprise can be assessed on the basis of financial
"are interested to know the short-term solvency
et short-term liabilities. Debentureholders
d short-term solvency of the enterprise
al amount and interest thereon.‘users of the financial statements to understand the com,
» Financial data can be made more comprehensy.” pe
which can be easily explained and understood. Y cha
UO a Athy
we can take a variety of decisions in
debt analysis, dividend decision
Various are,
and general
:
comes to know whether the fi
of dividend, capital appreciati
rities analyst who is intereste,
behaviour of share prices,
FM is fulfillin
ion and
secur
id in cash.
Bener;
le earnings to distribute and»
‘of the firm and hence, to s
as een
‘controlling *So, they are always inte
of the business, Trade
They would like to know whether
lis on expected lines Gr
fie, earning) and financial position
m8) F
d invest in a particular company or not
of a firm, ic, the ability t
can be determined with th
they decide whether they
9 an enterprise, ic,
dates. In other
rm, ic., ability toinversely Telated. 4 «
different ecounting yeai
Money.
Matters alone, the
qualita
Public relations are ign
Ored Whi
ven in
all such limitations from w
Basic data given in the fin
jasis of the analysis of this
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