Financial Analysis: Accountancy

Financial analysis
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Accountancy
Key concepts
Accountant · Bookkeeping · Cash and accrual basis ·

Constant Item Purchasing Power Accounting · Cost of goods
sold · Debits and credits · Double-entry system · Fair value
accounting · FIFO & LIFO · GAAP / International Financial
Reporting Standards · General ledger · Historical cost ·
Matching principle · Revenue recognition · Trial balance
Fields of accounting
Cost · Financial · Forensic · Fund · Management · Tax
Financial statements
Balance sheet · Statement of cash flows · Statement of

changes in equity · Statement of comprehensive income ·
Notes · MD&A
Auditing
Auditor's report · Financial audit · GAAS / ISA · Internal

audit · Sarbanes–Oxley Act
Professional Accountants
CWA/CMA · ACCA · CA · CGA · CMA · CPA · PA
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Financial analysis (also referred to as financial statement analysis or accounting analysis)

refers to an assessment of the viability, stability and profitability of a business, sub-business or
project.
It is performed by professionals who prepare reports using ratios that make use of information
taken from financial statements and other reports. These reports are usually presented to top
management as one of their bases in making business decisions. Based on these reports,
management may:
 Continue or discontinue its main operation or part of its business;

 Make or purchase certain materials in the manufacture of its product;
 Acquire or rent/lease certain machineries and equipment in the production of its goods;
 Issue stocks or negotiate for a bank loan to increase its working capital;
 Make decisions regarding investing or lending capital;
 Other decisions that allow management to make an informed selection on various
alternatives in the conduct of its business.
Contents
[hide]
 1 Goals
 2 Methods
 3 See also
 4 Notes
 5 External links
[edit] Goals
Financial analysts often assess the firm's:
1. Profitability - its ability to earn income and sustain growth in both short-term and long-term.
A company's degree of profitability is usually based on the income statement, which reports on
the company's results of operations;
2. Solvency - its ability to pay its obligation to creditors and other third parties in the long-term;
3. Liquidity - its ability to maintain positive cash flow, while satisfying immediate obligations;
Both 2 and 3 are based on the company's balance sheet, which indicates the financial condition
of a business as of a given point in time.
4. Stability- the firm's ability to remain in business in the long run, without having to sustain
significant losses in the conduct of its business. Assessing a company's stability requires the use
of both the income statement and the balance sheet, as well as other financial and non-financial
indicators.
[edit] Methods
Financial analysts often compare financial ratios (of solvency, profitability, growth, etc.):
 Past Performance - Across historical time periods for the same firm (the last 5 years for
example),
 Future Performance - Using historical figures and certain mathematical and statistical
techniques, including present and future values, This extrapolation method is the main
source of errors in financial analysis as past statistics can be poor predictors of future
prospects.
 Comparative Performance - Comparison between similar firms.
These ratios are calculated by dividing a (group of) account balance(s), taken from the balance
sheet and / or the income statement, by another, for example :
Net income / equity = return on equity (ROE)

Net income / total assets = return on assets (ROA)
Stock price / earnings per share = P/E ratio
Comparing financial ratios is merely one way of conducting financial analysis. Financial ratios
face several theoretical challenges:
 They say little about the firm's prospects in an absolute sense. Their insights about
relative performance require a reference point from other time periods or similar firms.
 One ratio holds little meaning. As indicators, ratios can be logically interpreted in at least
two ways. One can partially overcome this problem by combining several related ratios to
paint a more comprehensive picture of the firm's performance.
 Seasonal factors may prevent year-end values from being representative. A ratio's values
may be distorted as account balances change from the beginning to the end of an
accounting period. Use average values for such accounts whenever possible.
 Financial ratios are no more objective than the accounting methods employed. Changes
in accounting policies or choices can yield drastically different ratio values.
 They fail to account for exogenous factors like investor behavior that are not based upon
economic fundamentals of the firm or the general economy (fundamental analysis) [1].
Financial analysts can also use percentage analysis which involves reducing a series of figures as
a percentage of some base amount[2]. For example, a group of items can be expressed as a
percentage of net income. When proportionate changes in the same figure over a given time
period expressed as a percentage is known as horizontal analysis[3]. Vertical or common-size
analysis, reduces all items on a statement to a “common size” as a percentage of some base value
which assists in comparability with other companies of different sizes [4].
Another method is comparative analysis. This provides a better way to determine trends.
Comparative analysis presents the same information for two or more time periods and is
presented side-by-side to allow for easy analysis.[5].
[edit] See also

 Business valuation
 Fundamental analysis
[edit] Notes
1. ^ Financial Ratios
2. ^ Kieso, D. E., Weygandt, J. J., & Warfield, T. D. (2007). Intermediate Accounting (12th
ed.). Hoboken, NJ: John Wiley & Sons, p. 1320 ISBN 0-471-74955-9
3. ^ Kieso, et al., 2007, p. 1320
4. ^ Kieso, et al., 2007, p. 1320
5. ^ Kieso, et al., 2007, p. 1319

Financial Analysis: Accountancy

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Financial analysis

From Wikipedia, the free encyclopedia

Accountant · Bookkeeping · Cash and accrual basis ·

Cost · Financial · Forensic · Fund · Management · Tax

Balance sheet · Statement of cash flows · Statement of

Auditor's report · Financial audit · GAAS / ISA · Internal

This box: view • talk • edit

Financial analysis (also referred to as financial statement analysis or accounting analysis)

 Continue or discontinue its main operation or part of its business;

Net income / equity = return on equity (ROE)

[edit] See also

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