Financial Statement Analysis – Introduction

Financial Analysis

Present and prospective stakeholders of entity like to obtain information regarding its financial position and financial performance. This need is served by entity’s general public finance statements that are prepared by the management of the entity and are usually audited by the external auditor. Though the way financial statements are structured and the way information is presented in the financial statements is helpful to great extent however for deeper and to aid specific decisions of the users of financial statements one has to conduct financial analysis.

Financial analysis is the process of evaluating entity’s financial performance, financial position in relevant period, industry or social, economic or financial environment so that users can make informed decisions in a better way. In less technical way, financial analysis helps you understand the strength and weaknesses of the entity so that one can decide whether to invest in the business or to lend money.

Such examinations and evaluations are conducted by trained professionals known as financial analysts however, one need not to have specific qualification or degree to apply the techniques and methods to analyse entity in financial terms.

One of the major input for financial analysis purposes is entity’s complete set of financial statements. With the help of these financial statements one can assess how entity has performed in the past by knowing incomes and expenses and what is entity’s current position in terms of assets and liabilities.

Sources of financial information

For financial analysis purposes financial information may be extracted either from financial statements or from other sources.

Entity’s complete set of financial statements include:

  1. Statement of financial position / Balance Sheet
  2. Statement of Comprehensive Income / Income Statement
  3. Statement of Changes in Equity
  4. Statement of Cash flows
  5. Notes to the accounts / Disclosures

Some other statements that are not part of complete set of financial statements but accompany financial statements and thus considered part of package of financial statements include:

  1. directors’ report
  2. auditor’s report

Other sources of information include both internal and external sources of information. Internal sources information may or may not be part of regular accounting process. Similarly external sources of information may be from the same or different period or industry. Examples include:

  1. industry statistics released by relevant body or government
  2. competitors’ financial statements
  3. minutes to the meetings

Sources of information are not restricted only to the examples mentioned above. Financial analysts use and collect information from every such source that is expected to provide relevant and reliable financial information for analysis specific to user’s decision making needs. It depends on the situation and the decision itself that help analyst decide which source and information is better.