Financial Statement Analysis

10 Tips for Financial Statement Analysis

Financial Statements are part of every business – financial statements are used for business management, financial reporting, financial control and they are also critical sources of financial information used for making smart business decisions. Business managers, investors, bankers and other company stakeholders who have interest in your business use the financial statements to better understand how your business is performing financially.

The three Financial Statements used in Financial Statement Analysis

The three most important financial statements used for reporting and financial analysis by any company:

1. Income Statement (also known as Profit and Loss Statement or P&L Statement)

2. Balance Sheet

3. Cash Flow Statement

These three financial statements are financial documents or reports that summarize the company’s financial performance and by using these three financial statements you can develop a good insight into your business and understand the financial performance of any other company. If you take a look at the annual reports published by any corporation you will find these three financial statements or reference to part of these statements such as financial indicator and ratios as part of the annual report.

Financial Statement Analysis for Small Business

The size of the business and the type of industry doesn’t make any difference when it comes to financial statement analysis and reporting. For example good cash management is critical for every small business and every corporation as well – which is managed and analyzed by using the Cash Flow Statement. Also, another example is the Balance Sheet used by businesses to report and monitor the assets and liabilities or debt by the company. And finally, the P&L is used by any business for financial statement analysis of revenue / sales, gross profit margin, net profit, operating expenses, etc.

Income Statement

(also known as Profit and Loss Statement or P&L Statement)

The Income Statement (P&L) generally includes the following line items:

Revenue or Sales

Revenue Related Expenses

Net Revenue (Revenue – Revenue Related Expenses)

COGS (Cost of Goods Sold) – this is direct cost of sales like raw materials

Gross Profit

Operating Expenses

Operating Profit

Net Profit

Balance Sheet

The Balance Sheet of most companies will include the following categories and line items:

Assets

Current Assets (Cash, Accounts Receivable, Inventory)

Long-Term Assets (Equipment, Building, Land, Property)

Liabilities (Debt)

Current Liabilities (Accounts Payable)

Long-Term Liabilities

Owner’s Equity (Total Assets – Total Liabilities)

Cash Flow Statement

The Cash Flow Statement shows the details about the cash that the business has on the balance sheet. This financial statement includes the following financial categories and line items.

Cash Flow from Operating Activities (Change in Accounts Receivable, Change in Inventory, Change in Debt, Change in Depreciation)

Cash Flow from Investing Activities (Change in Capital Expenditures, Change in Investments)

Cash Flow from Financing Activities (Change in Financing such as dividends paid and purchase of stock)

10 Important Tips for Financial Statement Analysis

When you want to perform a quick financial statement analysis pay attention to the following:

1. Look at the P&L Statement or Income Statement to see the current revenue and the trend in revenue or sales for the last periods. Is the revenue growing or is it decreasing.

2. On the P&L Statement look at the Gross Profit Margin and calculate the % Gross Margin.

3. From the P&L look at the Operating Expenses and see the percent of revenue – this will give you an idea of how high the fixed costs are in the business.

4. From the P&L look at the Net Profit Margin as a percent of sales – this shows you how profitable the business is.

5. On the Balance Sheet look at the ratio between Assets and Debt (Liabilities) and see the overall structure of the company.

6. The Balance Sheet will also tell you the Owner’s Equity which is the difference between assets and liabilities or debt.

7. The Cash Flow Statement will show you how much cash on hand the company has.

8. The Cash Flow Statement will also show you and help you understand the sources of cash – for example is the cash collected or spent on financing, investing or business operations.

9. Look at the trends on all three financial statements and see the trends and pay attention to those financial trends, indicators or ratios that have substantial change over time – this reveals information about any major financial changes in the company.

10. Define the most important financial ratios or financial metrics for your business and calculate the ratios – make sure you have a simple template where you can track and monitor these financial ratios in order to identify any positive and negative changes in your business over time. This will help you understand the trend in your business and improve by taking actions on time – before it’s too late.