Stakeholders use financial statements to gather information about an organization and perform financial analysis. Common-size financial statements present all items in percentage terms. Balance sheet items are presented as percentages of assets, while income statement items are presented as percentages of sales.
Comparative financial statements present financial data for several years side by side. Data may be presented in the form of absolute values, percentages or both.
Vertical Common-Size Statements
A vertical financial statement is a type of common-size statement that expresses all values as percentages of the base value in the same year. Because the analysis is performed from the top down, these financial statements are called vertical.
Vertical analysis is most beneficial with income statements and helps a company examine trends. The total sales figure is usually the base value (100 percent). Various expenses, such as cost of goods sold, advertising and administrative expenses, are expressed as percentages of total sales. A company might perform this analysis on an income statement to determine if certain expenses or the costs of making a product are too high given the company's sales amount.
When used with balance sheets, vertical analysis shows how various balance sheet items (assets, liabilities, equity) relate to the total assets figure. This analysis can help a company explore the company's structure in terms of how much debt the company relies on in comparison to the equity it has.
Horizontal Common-Size Statements
Horizontal financial statements are common-size statements that express values across different years as percentages of the base value in a given base year. Horizontal statements are used to compare balance sheet data as well as income statement data and evaluate how it changed over the course of several years. Because the analysis is performed across the rows of the statement, these financial statements are called horizontal.
A horizontal analysis of an income statement over a period of a few years can show changes in net income and help answer questions regarding the company's trends in profitability. Looking at the balance sheet during a horizontal analysis can show how the company's growing in terms of acquiring cash and other assets as well as whether it's relying on more debt over time.
Comparative Financial Statements
Comparative financial statements are also called year-to-year change statements. Comparative financial statements can use both absolute amounts and percentages to provide meaningful analysis. This type of analysis puts absolute changes and percentage changes in perspective. No changes can be computed if there is no base figure available, and no meaningful change can be calculated if one figure is positive and the other is negative.
Benefits of Using Common-Size Statements
Common-size financial statements are very useful when comparing financial data between different companies and especially across different industries. Because of size, currency and other differences between financial statements, it may be difficult to gauge whether a certain figure is normal, too high or too low. Common-size analysis standardizes financial statements and allows for an effective comparison.
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