Companies conduct financial analysis to ascertain their position in the market. A company compares its current performances to its past performances, as well as contrasts it to the performances of other players in the market. Financial analysis comprises of three parts: vertical analysis, horizontal analysis and analysis of financial ratios. Vertical analysis compares and establishes a relationship between a single item to the total transactions. The vertical analysis is conducted on all items in the income statement and the balance sheet. Vertical analysis expresses all items in percentages.
Contrast each individual revenue item contained in the present year's income statement with the total amount of sales. For example, contrast the cost of goods sold with the total amount of sales. Multiply the figure you obtain by 100 to determine the percentage of sales constituted by the cost of goods sold.
Contrast each individual expenditure item contained in the present year's income statement with the total amount of sales to assess the percentage of money used to pay for the expense. For example, contrast the wages paid with the total amount of sales.
Repeat the same procedures with your previous year's income statements to ascertain whether your costs went up, profits declined or the rates of taxes increased.
Compare each asset in the balance sheet with the amount of total assets. Compare cash in hand, machinery, buildings and land with the value of total assets of the company. Express these in the form of percentages. For example, if the management finds that 40 percent of the total assets is made up of cash in hand and if they feel this amount is unnecessary, they are able to devise strategies to make good investments with the cash.
Compare each liability with the value of the total liabilities of the company. The mortgages, debentures, bonds and equity capital are compared to the total liabilities of the company.
Repeat the same procedures for the previous year to determine whether the assets have declined and liabilities have gone up.
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