Chapter Thirteen

Financial Statement Analysis

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Factors in Communicating Useful Information

Users

Types of Decisions Information

Analysis

The primary objective of accounting is to provide information useful for decision making. To provide

information that supports this objective, accountants must consider the following:

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Methods of Analysis

Horizontal Analysis

Vertical Analysis

Ratio Analysis

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Horizontal Analysis

Horizontal analysis (or trend analysis) refers to studying the behavior of individual financial statement items over several

accounting periods.

Absolute Amounts

Percentage Analysis

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Milavec Company Horizontal Analysis

2012 2011

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Vertical Analysis

Vertical analysis Vertical analysis uses uses percentages to compare percentages to compare individual components of individual components of

financial statements to a key financial statements to a key statement figure. Astatement figure. A common- common-

sizesize financial statement is a vertical analysis in which each

financial statement item is expressed as a percentage.

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Vertical Analysis of Income Statement

In income statements, all

items are usually

expressed as a percentage of

sales.

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Milavec Company Vertical Analysis

2012 2011

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Vertical Analysis of Balance Sheet

In balance sheets, all items

are usually expressed as a percentage of total assets.

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Ratio Analysis

Ratio analysis involves studying

various relationships

between different items reported in a

set of financial statements.

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Liquidity Ratios

Liquidity ratios indicate a company’s ability to pay short-term debts. They focus on current assets and current

liabilities.

1. Working capital

2. Current ratio

3. Quick ratio

4. Accounts receivable ratios

5. Inventory ratios

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Solvency Ratios

Solvency ratios are used to analyze a company’s long-term debt-

paying ability and its financing structure.

1. Debt to assets ratio

2. Debt to equity ratio

3. Number of times interest earned

4. Plant assets to long-term liabilities

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Profitability Ratios

Profitability ratios measure a company’s ability to generate

earnings.

1. Net margin (or return on sales)

2. Asset turnover ratio

3. Return on investment

4. Return on equity

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Stock Market Ratios

Stock market ratios analyze the earnings and dividends of a

company.

1. Earnings per share

2. Book value per share

3. Price-earnings (P E) ratio

4. Dividend yield

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Limitations of Financial Statement Analysis

Different Industries

Changing Economic

Environment

Accounting Principles

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End of Chapter Thirteen

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