Financial statement analysis is the process of reviewing a company’s financial statements to assess their performance over time. This evaluation helps identify areas for improvement and provides critical information to internal and external stakeholders such as business owners, investors, creditors and others.
Every company, firm or organization has a set of financial statements. These records contain various details about a business such as revenue, expenses and profits over an agreed upon period. These numbers can be used to make decisions about the future direction of a venture – like investing more capital, cutting costs, increasing revenues or hiring staff members.
The three primary financial statements are the balance sheet, income statement and cash flow statement. No matter the industry, these records provide invaluable insight into a company’s performance relative to its peers and competitors.
Understanding a company’s financial statements and calculating key ratios are essential elements of financial statement analysis. By using ratios, one can compare data across different sections of the statements to detect whether there is an overall upward or downward trend.
Ratios can also be an indicator of potential financial issues for a business. For instance, if the debt-to-equity ratio is high, this could indicate that the business is taking on too much debt and should consider cutting back or selling some assets to reduce its total debt load.
On a balance sheet, there are various ratios that can be calculated, such as current ratio and quick ratio. The current ratio measures how liquid assets of a company are and their ability to be converted into cash quickly for short-term liabilities like accounts payable. This ratio usually gives an indication of whether or not a borrower will default on its debt obligations.
Other ratios you might want to take into account are the working capital ratio and inventory turnover ratio. These figures demonstrate how quickly a company’s assets can be converted into cash and how efficiently it uses these resources for profit-generating activities.
Analyzing a balance sheet is relatively straightforward and takes only minutes. This is because the data for such an audit can be collected from various sources, such as accounting software like Excel or Google Sheets. Once collected, you can calculate various ratios and create reports that can be shared with all parties interested in the company’s performance.
Financial statement analysis is used by a variety of individuals, including business owners, managers, investors and creditors. Creditors are concerned with a company’s capacity to repay their loans while shareholders seek returns on their investments and potential dividend growth. Furthermore, regulatory authorities as well as company management are keen on understanding a firm’s financial statement.
