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Tools of Financial Analysis Various techniques are used in financial analysis.

These include 1) Ratio Analysis 2) Comparative Financial Statements 3) Common size statements 4) Trend Analysis etc. 1) Ratio analysis Ratios show an arithmetical relationship between two figures. It is an assessment of the significance of one figure in relation to the other. There are various classifications of ratios like liquidity ratios, profitability ratios, turnover ratios, capital structure ratios etc. Example of liquidity ratio: Current ratio If a Company s current assets are $5,000 and current liabilities are $3,000, then the current ratio would be: Current ratio = Current Assets/Current Liabilities -> $5,000/$3,000 = 1.67 2) Comparative Financial Statements Comparative Financial Statements provide information to assess the direction of change in the business. In these statements, two or more periods are placed side by side to facilitate comparison. This helps the financial analyst to know whether the business is moving in a favorable or unfavorable direction. 3) Common Size Statements A comparison of absolute figures could be misleading as presented in financial statements. To facilitate clear understanding, the figures reported are converted into percentages to some common base. In the income statement, the sales figure is assumed to be 100 and all figures are expressed as a percentage of sales. In the balance sheet, the total of assets is taken as 100 and all the figures are expressed as a percentage of this total. The statement so prepared is called common size statement. 4) Trend Analysis Using the past theory for comparison is called as trend analysis. Trend percentages are calculated only for some important items which can be logically connected with each other. Under this technique, information for a number of years is taken up and one year (usually the first year) is taken as the base year. Each item of the base year is taken as 100 and on that basis, the percentage for other years are calculated.