Analysis and Interpretation of Financial Statement 1

Fundamentals of Accountancy,Business,andManagement 2

Analysis and Interpretation of

Financial Statements 1

- The Statement of Financial Position (SFP) reports the balances of assets,

liabilities and equity of the business as of a point in time.

- The Statement of Comprehensive Income (SCI) shows the results of

operations of the business by reporting the revenue and expenses for the
specific accounting period.

- The Statement of Cash Flows (SCF) / Cash Flows Statement (CFS) reports
the actual cash inflows and outflows for the period that are classified into the
three main business activities, namely, operating, investing and financing
activities.

- The Statement of Changes in Equity (SCE) reports all the changes, whether
increases or decreases to the owner’s interest on the company during the
period

- The Notes to Financial Statements discussed the nature of the company’s

operations, its accounting policies, basis for estimates, components of the
accounts and significant transactions.

Defining the following:

• Financial statement (FS) analysis is the process of evaluating risks,

performance, financial health, and future prospects of a business by
subjecting financial statement data to computational and analytical
techniques with the objective of making economic decisions (White et.al
1998).

There are three kinds of FS analysis techniques:

- Horizontal analysis

- Vertical analysis

- Financial ratios

• Horizontal analysis, also called trend analysis, is a technique for evaluating

a series of financial statement data over a period of time with the purpose of
determining the increase or decrease that has taken place (Weygandtet.al
2013). This will reveal the behavior of the account over time. Is it increasing,
decreasing or not moving? What is the magnitude of the change? Also, what
is the relative change in the balances of the account over time?

- Horizontal analysis uses financial statements of two or more periods.

- All line items on the FS may be subjected to horizontal analysis.

- Only the simple year-on-year (Y-o-Y) grow this covered in this lesson.
- Changes can be expressed in monetary value (peso) and percentages
computed by using the

following formulas:

• Peso change=Balance of Current Year-Balance of Prior Year

• Percentage change= (Balance of Current Year-Balance of Prior

Year)/(Balance of Prior Year)

• Example:

✓This is evaluated as follows: Sales increased by P75,000. This represents

growth of 42.86% from 2013 levels.

• Vertical anaylsis, also called common-size analysis, is a technique that

expresses each financial statement item as a percentage of a base amount
(Weygandt et.al. 2013).

- For the SFP, the base amount is Total Assets.

• Balance of Account / Total Assets.

• From the common-size SFP, the analyst can infer the composition of assets
and the company’s financing mix.

• Example:

- For the SCI, the base amount is Net Sales.

• Balance of Account / Total Sales.

• This will reveal how “Net Sales” is used up by the various expenses.

• Net income as a percentage of sales is also known as the net profit margin.

• Example: