Knowing how to perform a financial statement analysis is a crucial element to understanding the overall financial health of your business.
You'll get an accurate insight into the profitability of your business and its ability to cover any debts. Analysing your statements will also help you forecast how much you could earn in the future.
What is financial statement analysis?
A financial statement analysis, sometimes called a financial statement review, lets you evaluate and understand the financial statements of your business.
Why is a financial statement analysis important?
A financial statement analysis is important because it helps you better understand your business's overall financial position and identify areas for improvement.
Helps with financial forecasting
Financial forecasting is a key benefit of financial statements. You can compare different periods, project future earnings and expenses and plan for seasonal changes.
Provides insight into a business's financial performance
Financial statements provide insight into a business's financial performance, showing where you're doing well and where you could improve. As well as giving you a clear indication of the financial health of your business, this can help when seeking investors or lenders.
Assess profitability
Assessing profitability is key to running a sustainable business. Analysing your financial statements will give insight into your ability to make more money than you put in.
Different types of financial statements
Different types of financial statements are used to give an insight into your company's financial health. There are three you'll regularly use:
Balance sheet
A balance sheet gives an overview of your business's financial position, showing assets (what you own), liabilities (what you owe) and shareholder equity.
Income statement
The income statement, often called a profit and loss statement, shows the revenue and expenses of a business, giving insight into whether the company made a profit or loss over a certain period.
Cash flow statement
The cash flow statement shows the amount of money coming in and going out of a business.
Financial statement analysis techniques
Financial statement analysis techniques include:
Vertical analysis
A vertical analysis compares items on a financial statement against others to give you a percentage. This gives insight into what you've earned and spent in any area. For example, your income statement could show that 30% of your total expenses are on transport and 20% on wages.
Horizontal analysis
Horizontal analysis compares the same financial statements against each other for two or more periods. This lets you look into performance trends. In horizontal analysis, you'll see revenue, spend, cash flow and others go up or down compared to previous periods. This gives an overview of how your business performance is changing over time and where you can make tweaks.
Ratio analysis
Ratio analysis involves calculating ratios by comparing one component from financial statements against another. You can use these ratios to spot trends and compare them to other years.
Common ratios include gross profit margin, debt-to-equity (what you owe versus what you have) and return on assets or equity.
How to analyse financial statements
To analyse your company's financial statements, choose a set period and follow these steps.
1. Gather your business’s financial statements
Gather your business's financial statements, including your cash flow, balance sheet and income (or profit and loss) statements. MYOB accounting software will generate these based on the transactions and records you kept throughout the period.
2. Apply analysis techniques
Apply analysis techniques to get a full picture of how your business is tracking. These techniques include horizontal analysis, where you compare your statements to previous years; vertical analysis, where each line on a statement is a percentage of the total, and ratio analysis, where different components are compared.
3. Summarise your findings
Summarise your findings in paragraph form. This gives you an easily digestible snapshot of your business rather than a row of numbers and figures. It's also helpful if you decide to sell your business or take an investment.
Financial statement analysis FAQs
What is the most important part of a financial statement analysis?
The most important part of a financial statement analysis is determining the profitability of your business. This could be generating enough revenue to keep up with any debts and credit, or simply your ability to earn a return on your capital.
What are the main ratios used in a financial analysis?
The six main financial ratios used in a financial analysis are liquidity, leverage, efficiency, profitability, coverage and market value.
What is considered a good balance sheet ratio?
A good balance sheet ratio of current assets to current liabilities is between 1.5 and 2. Anything below 1 indicates a business may struggle to pay debts and keep up with expenses. A ratio above 1 indicates it generates enough revenue to keep up-to-date with bills and debts.
Make sense of your money with a financial statement analysis
A financial statement analysis is vital to keep track of the economic status of your business and identify any trends or areas for improvement. Using three core techniques, you can predict profitability and make sense of how much you're spending.
The best way to boost your analysis is to ensure you have the right accounting software and data on hand – that's where MYOB Business comes in, with real-time and accurate financial reports at the click of a button. Get started now.
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