FINANCIAL STATEMENT

ANALYSIS : II
Mobin Shaikh
GNLU
ANALYSIS AND INTERPRETATION OF
FINANCIAL STATEMENTS
FINANCIAL STATEMENT
ANALYSIS
 Non-accounting majors, especially, should relate
well to this topic
It looks at accounting information from users’
perspective
 What is financial statement analysis?
”Tearing apart” the financial statements
and looking at the relationships
FINANCIAL STATEMENT
ANALYSIS
Information is available from 627 628
 Published annual reports
(1) Financial statements
(2) Notes to financial statements
(3) Letters to stockholders
(4) Auditor’s report (Independent accountants)
(5) Management’s discussion and analysis
 Reports filed with the government
FINANCIAL STATEMENT
ANALYSIS
Information is available from 627 628
 Other sources
(1) Newspapers (e.g., Wall Street Journal )
(2) Periodicals (e.g. BS, Forbes, Fortune)
(3) Financial information organizations such
as: Moody’s, Standard & Poor’s, SEBI Reports, Investopedia,
Individual Research Agencies
(4) Other business publications
METHODS OF FINANCIAL
STATEMENT ANALYSIS
Horizontal Analysis
Vertical Analysis
Common-Size Statements
Trend Percentages
Ratio Analysis
HORIZONTAL ANALYSIS

Using comparative financial

statements to calculate Rupee
or percentage changes in a
financial statement item from
one period to the next
HORIZONTAL ANALYSIS
 Comparison of absolute data or percentage of two
or more years.
 It is a comparative analysis of increase or
decrease in percentages between the
corresponding items in financial statements of
previous year and current year. Item wise figures
are compared between the statements of two
periods, the increase or decrease is noted down
and the percentage is calculated keeping the
previous year’s figure as the base.
HORIZONTAL ANALYSIS
 If the horizontal analysis includes three or more
year’s figures for item wise comparison, the
percentage increase or decrease may be
calculated keeping figures of the earliest year as
the base for comparing all the later year figures
or each year’s item-wise figures may be compared
with immediately preceding year’s figures.
HORIZONTAL ANALYSIS
EXAMPLE
The management of Xerox Corporation
provides you with comparative balance
sheets of the years ended March 31, 2010
and 2011. Management asks you to prepare
a horizontal analysis on the information.
 XEROX CORPORATION
Comparative Balance Sheets
March 31, 2010 and 2011

Incr
2011 2010 Am
Assets
Current assets:
Cash ₹ 12,000.00 ₹ 23,500.00
Accounts receivable, net 60,000 40,000
Inventory 80,000 100,000
Prepaid expenses 3,000 1,200
Total current assets 155,000 164,700
Property and equipment:
Land 40,000 40,000
Buildings and equipment, net 120,000 85,000
Total property and equipment 160,000 125,000
Total assets ₹ 315,000.00 ₹ 289,700.00
HORIZONTAL ANALYSIS
EXAMPLE
Calculating Change in Rupee Amounts

Rupee Current Year Base Year

Change = Figure – Figure
HORIZONTAL ANALYSIS
EXAMPLE
Calculating Change in Rupee Amounts

Rupee Current Year Base Year

Change = Figure – Figure

Since we are measuring the amount of

the change between 2010 and 2011, the
rupee amounts for 2010 become the
“base” year figures.
HORIZONTAL ANALYSIS
EXAMPLE
Calculating Change as a Percentage

Percentage Rupee Change

Change = Base Year Figure × 100%
 HORIZONTAL ANALYSIS
EXAMPLE
XEROX CORPORATION
Comparative Balance Sheets
March 31, 2010 and 2011
Increase (Decrease)
2010 2011 Amount %
Assets
Current assets:
Cash ₹ 12,000.00 ₹ 23,500.00 ₹ -11,500.00
Accounts receivable, net 60,000 40,000
Inventory 80,000 100,000
Prepaid expenses 3,000 1,200
Total current assets 155,000 = (11,500)
12,000 –23,500 164,700
Property and equipment:
Land 40,000 40,000
Buildings and equipment, net 120,000 85,000
Total property and equipment 160,000 125,000
Total assets ₹ 315,000.00 ₹ 289,700.00
HORIZONTAL ANALYSIS
EXAMPLE

(11,500 ÷ 23,500) × 100% = 48.9%

 HORIZONTAL ANALYSIS
EXAMPLE
XEROX CORPORATION
Comparative Balance Sheets
March 31, 2011 and 2010
Increase (Decrease)
2011 2010 Amount %
Assets
Current assets:
Cash ₹ 12,000.00 ₹ 23,500.00 ₹ -11,500.00 (48.9
Accounts receivable, net 60,000 40,000 20,000 50.0
Inventory 80,000 100,000 (20,000) (20.0
Prepaid expenses 3,000 1,200 1,800 150.0
Total current assets 155,000 164,700 (9,700) (5.9
Property and equipment:
Land 40,000 40,000 - 0.0
Buildings and equipment, net 120,000 85,000 35,000 41.2
Total property and equipment 160,000 125,000 35,000 28.0
Total assets ₹ 315,000.00 ₹ 289,700.00 ₹ 25,300.00 8.7
HORIZONTAL ANALYSIS
EXAMPLE

Let’s apply the same

procedures to the
liability and stockholders’
equity sections of the
balance sheet.
 ZEROX CORPORATION
Comparative Balance Sheets
December 31, 2011 and 2010
Increase (Decrease)
2011 2010 Amount %
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable ₹ 67,000.00 ₹ 44,000.00 ₹ 23,000.00 52.
Notes payable 3,000 6,000 (3,000) (50.
Total current liabilities 70,000 50,000 20,000 40.
Long-term liabilities:
Bonds payable, 8% 75,000 80,000 (5,000) (6.
Total liabilities 145,000 130,000 15,000 11.
Stockholders' equity:
Preferred stock 20,000 20,000 - 0.
Common stock 60,000 60,000 - 0.
Additional paid-in capital 10,000 10,000 - 0.
Total paid-in capital 90,000 90,000 - 0.
Retained earnings 80,000 69,700 10,300 14.
Total stockholders' equity 170,000 159,700 10,300 6.
Total liabilities and stockholders' ₹ 315,000.00 ₹ 289,700.00 ₹ 25,300.00 8.
equity
HORIZONTAL ANALYSIS
EXAMPLE

Now, let’s apply the

procedures to the
income statement.
 XEROX CORPORATION
Comparative Income Statements
For the Years Ended Marchr 31, 2011 and 2010
Increase (Decrease)
2011 2010 Amount %
Net sales ₹ 520,000.00 ₹ 480,000.00 ₹ 40,000.00 8.3
Cost of goods sold 360,000 315,000 45,000 14.3
Gross margin 160,000 165,000 (5,000) (3.0
Operating expenses 128,600 126,000 2,600 2.1
Net operating income 31,400 39,000 (7,600) (19.5
Interest expense 6,400 7,000 (600) (8.6
Net income before taxes 25,000 32,000 (7,000) (21.9
Less income taxes (30%) 7,500 9,600 (2,100) (21.9
Net income ₹ 17,500.00 ₹ 22,400.00 ₹ -4,900.00 (21.9
 XEROX CORPORATION
Comparative Income Statements
For the Years Ended March 31, 2011 and 2010
Increase (Decrease)
2011 2010 Amount %
Net sales ₹ 520,000.00 ₹ 480,000.00 ₹ 40,000.00 8.3
Cost of goods sold 360,000 315,000 45,000 14.3
Gross margin 160,000 165,000 (5,000) (3.0
Operating expenses 128,600 126,000 2,600 2.1
Net operating income 31,400 39,000 (7,600) (19.5
Sales increased by 8.3% while
Interest expense 6,400net income 7,000 (600) (8.6
Net income decreased by 21.9%.
before taxes 25,000 32,000 (7,000) (21.9
Less income taxes (30%) 7,500 9,600 (2,100) (21.9
Net income ₹ 17,500.00 ₹ 22,400.00 ₹ -4,900.00 (21.9
 There were increases in both cost of goods sold (14.3%) and
operating expenses (2.1%). These increased costs more than
offset the increase in sales, yielding an overall decrease in net
income. XEROX CORPORATION
Comparative Income Statements
For the Years Ended March 31, 2011 and 2010
Increase (Decrease)
2011 2010 Amount %
Net sales ₹ 520,000.00 ₹ 480,000.00 ₹ 40,000.00 8.3
Cost of goods sold 360,000 315,000 45,000 14.3
Gross margin 160,000 165,000 (5,000) (3.0
Operating expenses 128,600 126,000 2,600 2.1
Net operating income 31,400 39,000 (7,600) (19.5
Interest expense 6,400 7,000 (600) (8.6
Net income before taxes 25,000 32,000 (7,000) (21.9
Less income taxes (30%) 7,500 9,600 (2,100) (21.9
Net income ₹ 17,500.00 ₹ 22,400.00 ₹ -4,900.00 (21.9
VERTICAL ANALYSIS
For a single financial
statement, each item
is expressed as a
percentage of a
significant total,
e.g., all income
statement items are
expressed as a
percentage of sales
Vertical analysis helps
the management to
compare the
percentage of different
components with
competitive
enterprises
percentages or
industry average
percentages.
VERTICAL ANALYSIS EXAMPLE
The management of Sample Company asks
you to prepare a vertical analysis for the
comparative balance sheets of the
company.
 VERTICAL ANALYSIS EXAMPLE
Sample Company
Balance Sheet (Assets)
At December 31, 1999 and 1998
% of Total Assets
1999 1998 1999 1998
Cash ₹ 82,000.00 ₹ 30,000.00 17% 8%
Accts. Rec. 120,000 100,000 25% 26%
Inventory 87,000 82,000 18% 21%
Land 101,000 90,000 21% 23%
Equipment 110,000 100,000 23% 26%
Accum. Depr. (17,000) (15,000) -4% -4%
Total ₹ 483,000.00 ₹ 387,000.00 100% 100%
 VERTICAL ANALYSIS EXAMPLE
Sample Company
Balance Sheet (Assets)
At December 31, 1999 and 1998
% of Total Asset
1999 1998 1999 1998
Cash ₹ 82,000.00 ₹ 30,000.00 17% 8%
Accts. Rec. 120,000 100,000 25% 26%
Inventory 87,000 82,000 18% 21%
82,000 ÷ 483,000 = 17% rounded
Land 101,000 90,000 21% 23%
30,000 ÷ 387,000
Equipment
= 8% rounded
110,000 100,000 23% 26%
Accum. Depr. (17,000) (15,000) -4% -4%
Total ₹ 483,000.00 ₹ 387,000.00 100% 100%
 VERTICAL ANALYSIS EXAMPLE
Sample Company
Balance Sheet (Liabilities & Stockholders' Equity)
At December 31, 1999 and 1998
% of Total A
1999 1998 1999 19
Acts. Payable ₹ 76,000.00 ₹ 60,000.00 16% 1
Wages Payable 33,000 17,000 7%
76,000
Notes ÷ 483,000 = 50,000
Payable 16% rounded 50,000 10% 1
Common Stock 170,000 160,000 35% 4
Retained Earnings 154,000 100,000 32% 2
Total ₹ 483,000.00 ₹ 387,000.00 100% 10
TREND PERCENTAGES
Show changes over time in
given financial statement items
(can help evaluate financial
information of several years)
 TREND PERCENTAGES
EXAMPLE
Wheeler, Inc. provides you with the following
operating data and asks that you prepare a
trend analysis.
Wheeler, Inc.
Operating Data
1999 1998 1997 1996 1995
Revenues ₹ 2,405.00 ₹ 2,244.00 ₹ 2,112.00 ₹ 1,991.00 ₹ 1,820.00
Expenses 2,033 1,966 1,870 1,803 1,701
Net income ₹ 372.00 ₹ 278.00 ₹ 242.00 ₹ 188.00 ₹ 119.00
 TREND PERCENTAGES
EXAMPLE
Wheeler, Inc. provides you with the following
operating data and asks that you prepare a
trend analysis.
Wheeler, Inc.
Operating Data
1999 1998 1997 1996 1995
Revenues ₹ 2,405.00 ₹ 2,244.00 ₹ 2,112.00 ₹ 1,991.00 ₹ 1,820.00
Expenses 2,033 1,966 1,870 1,803 1,701
Net income ₹ 372.00 ₹ 278.00 ₹ 242.00 ₹ 188.00 ₹ 119.00

1,991 - 1,820 = $171

 TREND PERCENTAGES
EXAMPLE
Using 1995 as the base year, we develop the
following percentage relationships.
Wheeler, Inc.
Operating Data
1999 1998 1997 1996 1995
Revenues 132% 123% 116% 109% 100%
Expenses 120% 116% 110% 106% 100%
Net income 313% 234% 203% 158% 100%

1,991 - 1,820 = 171

171 ÷ 1,820 = 9% rounded
 140
Trend line
130 for Sales
% of 100 Base

120

110

100

90
1995 1996 1997 1998 1999
Sales
Years
Expenses
COMMON-SIZE STATEMENTS
Financial statements that show
only percentages and no
absolute Rupee amounts