Fin Statement analysis

1. ANALYSIS OF FINANCIALANALYSIS OF FINANCIAL
STATEMENTSSTATEMENTS
Prof. M .B. ThakoorProf. M .B. Thakoor

2. SYNOPSISSYNOPSIS
• 1)1) MEANING OF FINANCIAL STATEMENTMEANING OF FINANCIAL STATEMENT
• 2)2) NATURE OF FINANCIAL STATEMENTNATURE OF FINANCIAL STATEMENT
• 3)3) ESSENTIAL QUALITIES OF FINANCIALESSENTIAL QUALITIES OF FINANCIAL
STATEMENTSTATEMENT
• 4)4) LIMITATION OF FINANCIALLIMITATION OF FINANCIAL
STATEMENTSTATEMENT
• 5)5) FINANCIAL STATEMENT ANALYSISFINANCIAL STATEMENT ANALYSIS
• 6)6) TOOLS & TECHNIQUES OF ANALYSISTOOLS & TECHNIQUES OF ANALYSIS
• 7)7) TYPES OF COMPARISONTYPES OF COMPARISON
• 8)8) INTERPRETATIONINTERPRETATION

3. NATURE OF FINANCIALNATURE OF FINANCIAL
STATEMENTSTATEMENT
• The data exhibited by financial statementsThe data exhibited by financial statements
are affected byare affected by
• a)a) Recorded factsRecorded facts
• b)b) Accounting Concepts,Accounting Concepts,
Conventions & PrinciplesConventions & Principles
• c)c) Personal JudgmentPersonal Judgment

4. Accounting PrinciplesAccounting Principles
•
Accounting conceptsAccounting concepts Accounting ConventionsAccounting Conventions
• a)a) Entity ConceptEntity Concept a)a) DisclosureDisclosure
• b)b) Going Concern ConceptGoing Concern Concept b)b) MaterialityMateriality
• c)c) Accounting period conceptAccounting period concept c)c) ConsistencyConsistency
• d)d) Money Measurement ConceptMoney Measurement Concept d)d) ConservatismConservatism
• e)e) Cost ConceptCost Concept
• f)f) Cost Attach ConceptCost Attach Concept
• g)g) Dual Aspect ConceptDual Aspect Concept
• h)h) Accrual conceptAccrual concept
• i)i) Periodic Matching of cost andPeriodic Matching of cost and
• Revenue ConceptRevenue Concept
• j)j) Realisation ConceptRealisation Concept
• k)k) Verifiable Objective Evidence ConceptVerifiable Objective Evidence Concept

5. ESSENTIAL QUALITIES OFESSENTIAL QUALITIES OF
FINANCIAL STATMENTSFINANCIAL STATMENTS
• 1.1. RelevanceRelevance
• 2.2. UnderstandabilityUnderstandability ::
• 3.3. Reliability and AccuracyReliability and Accuracy
• 4.4. ComparabilityComparability
• 5.5. CompletenessCompleteness
• 6.6. TimelinessTimeliness

6. LIMITATIONS OF FINANCIALLIMITATIONS OF FINANCIAL
STATEMENTSSTATEMENTS
• 1.1. Lack of PrecisionLack of Precision
• 2.2. Lack of ExactnessLack of Exactness
• 3.3. Incomplete InformationIncomplete Information
• 4.4. Interim ReportsInterim Reports
• 5.5. Hiding of Real Position or Window DressingHiding of Real Position or Window Dressing
• 6.6. Lack of ComparabilityLack of Comparability
• 7.7. Historical CostsHistorical Costs

7. AnalysisAnalysis
• Analysis – To Analyse – to cut into piecesAnalysis – To Analyse – to cut into pieces
• But only analyse – No – It means alsoBut only analyse – No – It means also
Interpretation.Interpretation.
• ThusThus
• Financial Statement Analysis meansFinancial Statement Analysis means
“Analysis, comparisons and“Analysis, comparisons and
interpretation of Financial data tointerpretation of Financial data to
achieve the desired result”achieve the desired result”

8. TOOLS OF FINANCIALTOOLS OF FINANCIAL
STATEMENT ANALYSISSTATEMENT ANALYSIS
• 1.1. Comparative StatementsComparative Statements
• 2.2. Common Size StatementsCommon Size Statements
• 3.3. Trend AnalysisTrend Analysis
• 4.4. Ratio AnalysisRatio Analysis
• 5.5. Fund Flow StatementFund Flow Statement
• 6.6. Cash Flow StatementCash Flow Statement

9. Types of FinancialTypes of Financial
AnalysisAnalysis
• 1.1. Intra-Firm ComparisonIntra-Firm Comparison
• 2.2. Inter-firm ComparisonInter-firm Comparison
• 3.3. Industry Average or StandardIndustry Average or Standard
AnalysisAnalysis::
• 4.4. Horizontal AnalysisHorizontal Analysis
• 5.5. Vertical AnalysisVertical Analysis

10. InterpretationInterpretation
• The Analysis is of no use without interpretationThe Analysis is of no use without interpretation
The Company has to interpret the financialThe Company has to interpret the financial
statement which it has analysed.statement which it has analysed.
• The Analysis is made to serve the followingThe Analysis is made to serve the following
purposepurpose
•
• 1.1. Profitability AnalysisProfitability Analysis
• 2.2. Liquidity AnalysisLiquidity Analysis
• 3.3. Solvency Analysis (To know the financial structure)Solvency Analysis (To know the financial structure)

11. Interested Parties in Analysis ofInterested Parties in Analysis of
Financial StatementsFinancial Statements
• 1.1. ManagementManagement
• 2.2. Investors (In the form of Shareholders orInvestors (In the form of Shareholders or
• Debentureholders)Debentureholders)
• 3.3. Banks and Financial InstitutionBanks and Financial Institution
• 4.4. Trade CreditorsTrade Creditors
• 5.5. Government and their AgenciesGovernment and their Agencies
• 6.6. EmployeesEmployees
• 7.7. CustomersCustomers
• 8.8. PublicPublic
• 9.9. Trade AssociationTrade Association
• 10.10. Stock ExchangeStock Exchange

12. 1. Comparative Financial1. Comparative Financial
StatementsStatements
• Comparative Financial Statements is aComparative Financial Statements is a
statement of Financial Position of astatement of Financial Position of a
business designed in such a way where abusiness designed in such a way where a
comparative study is undertaken ofcomparative study is undertaken of
different accounting items, to measure thedifferent accounting items, to measure the
performance of a Business Activity.performance of a Business Activity.

13. Types of ComparisonTypes of Comparison
• There are 3 types of ComparisonThere are 3 types of Comparison
• 1)1) Inter Firm ComparisonInter Firm Comparison
• 2)2) Intra Firm ComparisonIntra Firm Comparison
• 3)3) Inter Period ComparisonInter Period Comparison

14. Merits:Merits:
• 1)1) Indicate the Direction ofIndicate the Direction of
FinancialFinancial
PositionPosition
• 2)2) Reveal Nature & Trend:Reveal Nature & Trend:
• 3)3) Identifying Trouble Spots:Identifying Trouble Spots:
•

15. Disadvantages:Disadvantages:
• 1)1) Misleading picture, if consistency in accounting principleMisleading picture, if consistency in accounting principle
not followed.not followed.
• 2)2) Constant change in price level tender accountingConstant change in price level tender accounting
statement useless for comparison.statement useless for comparison.
• 3)3) Inter firm comparison is useless, unless all the firms areInter firm comparison is useless, unless all the firms are
of the same age, size and follow the same principles.of the same age, size and follow the same principles.
• 4)4) If there exists any Abnormal Period between 2 successiveIf there exists any Abnormal Period between 2 successive
accounting period then it will prove to be a pointless analysis.accounting period then it will prove to be a pointless analysis.

16. 2. Common Size2. Common Size
StatementsStatements
• It is a Statement in Vertical Form in whichIt is a Statement in Vertical Form in which
every item of the Financial Statement isevery item of the Financial Statement is
reduced to a common base. This wasreduced to a common base. This was
introduced with a view to overcome theintroduced with a view to overcome the
limitation of Comparative Statement.limitation of Comparative Statement.

17. Types of common sizeTypes of common size
statements.statements.
• (1)Common Size Balance Sheet(1)Common Size Balance Sheet
• ((2)Common Size Income Statement:2)Common Size Income Statement:

18. Advantages of Common SizeAdvantages of Common Size
StatementStatement
• 1)1) It reveals Sources and Application of FundsIt reveals Sources and Application of Funds
in a nutshell which help in taking decision.in a nutshell which help in taking decision.
• (2)(2) If common size statements of 2 or moreIf common size statements of 2 or more
years are compared it indicate the changingyears are compared it indicate the changing
proportion of various components of Assets,proportion of various components of Assets,
Liabilities, Cost, Net Sale & Profit.Liabilities, Cost, Net Sale & Profit.
• (3)(3) When Inter Firm Comparison is made withWhen Inter Firm Comparison is made with
the help of Common size statement it helps inthe help of Common size statement it helps in
doing corporate evaluation and Ranking.doing corporate evaluation and Ranking.

19. Disadvantages of CommonDisadvantages of Common
Size StatementSize Statement
• (1)(1) No Established Standard Proportion:No Established Standard Proportion:
• Common Size Statements are regarded as useless asCommon Size Statements are regarded as useless as
there is no established standard proportion of an asset tothere is no established standard proportion of an asset to
the total asset or an item of expense to the net sales.the total asset or an item of expense to the net sales.
• (2)(2) Consistency Required:-Consistency Required:-
• If Financial Statement of a Particular businessIf Financial Statement of a Particular business
organization are not prepared year after year on aorganization are not prepared year after year on a
consistent basis comparative study of common sizeconsistent basis comparative study of common size
statement will be misleadingstatement will be misleading

20. 3. Trend Analysis3. Trend Analysis
• Trend Analysis is a statement in verticalTrend Analysis is a statement in vertical
form where the earliest year is taken asform where the earliest year is taken as
base year and the value of all the items inbase year and the value of all the items in
the financial statements will be related tothe financial statements will be related to
the base year in terms of % where valuethe base year in terms of % where value
of each item in base year will beof each item in base year will be
considered as 100. Trend % analysisconsidered as 100. Trend % analysis
move in one directions either upward ormove in one directions either upward or
downward progression or regression.downward progression or regression.

21. Advantages:Advantages:
• (1)(1) Trend % indicate the increase or decreaseTrend % indicate the increase or decrease
with the magnitude of change in % which iswith the magnitude of change in % which is
more effective than absolute data.more effective than absolute data.
• Ex. If we say profit increases by Rs. 50,000/- itEx. If we say profit increases by Rs. 50,000/- it
will be meaningless unless we find by what %will be meaningless unless we find by what %
the profit has increased.the profit has increased.
• (2)(2) Facilitate efficient comparative study ofFacilitate efficient comparative study of
financial performancefinancial performance

22. Limitations:Limitations:
• (1)(1) It will give a misleading picture if consistency inIt will give a misleading picture if consistency in
accounting principle is not followed.accounting principle is not followed.
• (2)(2) Constant change in price level render accountingConstant change in price level render accounting
statement useless for comparison.statement useless for comparison.
• (3)(3) During inflationary period the data over a period of timeDuring inflationary period the data over a period of time
become incomparable, unless the absolute rupee data isbecome incomparable, unless the absolute rupee data is
adjusted.adjusted.
• (4)(4) There is always the danger of selecting the base yearThere is always the danger of selecting the base year
which may not be representative, normal & typical.which may not be representative, normal & typical.
• (5)(5) Trend % should be studied in relation with AbsoluteTrend % should be studied in relation with Absolute
figure otherwise it give misleading picture. For ex. No. offigure otherwise it give misleading picture. For ex. No. of
student where 2, the next year they increased to 4. Now trendstudent where 2, the next year they increased to 4. Now trend
% show 100% increase but absolutely we get clear picture% show 100% increase but absolutely we get clear picture
than trend %.than trend %.

23. 4. Ratio Analysis4. Ratio Analysis
• TRADITIONAL CLASSIFICATIONTRADITIONAL CLASSIFICATION
• BALANCE SHEET RATIOSBALANCE SHEET RATIOS
• (1)(1) Current RatioCurrent Ratio
• (2)(2) Quick Ratio / Liquid Ratio / Acid Test Ratio.Quick Ratio / Liquid Ratio / Acid Test Ratio.
• (3)(3) Super Quick RatioSuper Quick Ratio
• (4)(4) Stock to work Capital RatioStock to work Capital Ratio
(5)(5) Capital Gearing RatioCapital Gearing Ratio
• (6)(6) Debt Equity RatioDebt Equity Ratio
• (7)(7) Proprietary RatioProprietary Ratio
• (8)(8) Long Term Borrowing : Total AssetLong Term Borrowing : Total Asset
• (9)(9) Fixed Assets : Net Worth.Fixed Assets : Net Worth.

24. REVENUE STATEMENTREVENUE STATEMENT
RATIOSRATIOS
• Gross Profit RatioGross Profit Ratio
• Net Profit RatioNet Profit Ratio
• Operating Net Profit RatioOperating Net Profit Ratio
• Operating RatioOperating Ratio
• Operating Expenses RatioOperating Expenses Ratio
• Stock Turnover RatioStock Turnover Ratio
• Stock Holding PeriodStock Holding Period

25. COMBINED RATIOSCOMBINED RATIOS
• Return on Investment (ROI) orReturn on Investment (ROI) or
Return on Capital Employed (ROCE)Return on Capital Employed (ROCE)
• Return on Proprietor / Shareholder fundReturn on Proprietor / Shareholder fund
• Return on Equity shareholder fundReturn on Equity shareholder fund
• Earning per shareEarning per share
• Dividend per shareDividend per share
• Dividend Payout RatioDividend Payout Ratio
• Price Earning RatioPrice Earning Ratio
• Interest Coverage RatioInterest Coverage Ratio

26. COMBINED RATIOSCOMBINED RATIOS
• Debt : Service Coverage RatioDebt : Service Coverage Ratio
• Debit Collection periodDebit Collection period
• Debtor Turnover RatioDebtor Turnover Ratio
• Creditor Payment PeriodCreditor Payment Period
• Creditor Turnover RatioCreditor Turnover Ratio
• Preference Dividend CoverPreference Dividend Cover
• Equity Dividend CoverEquity Dividend Cover

27. BASED ON FUNCTIONSBASED ON FUNCTIONS
• SOLVENCY RATIOSSOLVENCY RATIOS
• Short Term SolvencyShort Term Solvency
• Current RatioCurrent Ratio
• Quick Ratio / Liquid Ratio / Acid TestQuick Ratio / Liquid Ratio / Acid Test
RatioRatio
• Super Quick RatioSuper Quick Ratio
• Stock : Working Capital Ratio.Stock : Working Capital Ratio.

28. Long Term Solvency /Long Term Solvency /
Leverage Ratio /Leverage Ratio /
• Capital GearingCapital Gearing
• Debt : Equity RatioDebt : Equity Ratio
• Proprietary RatioProprietary Ratio
• Long Term Borrowing: Total AssetsLong Term Borrowing: Total Assets
• ( 1 – Net Worth )/ Total( 1 – Net Worth )/ Total
AssetsAssets
• Fixed Asset : Net worthFixed Asset : Net worth

29. ACTIVITY RATIO /ACTIVITY RATIO /
TURNOVER RATIOSTURNOVER RATIOS
• Stock Turn Over RatioStock Turn Over Ratio
Stock Holding PeriodStock Holding Period
Debt Collection PeriodDebt Collection Period
Debtor Turnover RatioDebtor Turnover Ratio
Creditor Payment PeriodCreditor Payment Period
Creditor Turnover RatioCreditor Turnover Ratio

30. PROFITABILITY RATIOPROFITABILITY RATIO
• In relation to salesIn relation to sales
• Gross Profit RatioGross Profit Ratio
• Net Profit RatioNet Profit Ratio
• Operating Net Profit RatioOperating Net Profit Ratio
• Operating RatioOperating Ratio
• Operating Expenses Ratio.Operating Expenses Ratio.

31. In relation to capitalIn relation to capital
employedemployed
• Return on Interest (ROI) or Return on CapitalReturn on Interest (ROI) or Return on Capital
Employed (ROLE)Employed (ROLE)
• Return on Proprietor / Shareholder fundsReturn on Proprietor / Shareholder funds
• Return on Equity Shareholder FundReturn on Equity Shareholder Fund
• Earning per ShareEarning per Share
• Dividend per ShareDividend per Share
• Dividend Payout RatioDividend Payout Ratio
• Price Earning RatioPrice Earning Ratio

32. COVERAGE RATIOSCOVERAGE RATIOS
• Interest Coverage RatioInterest Coverage Ratio
• Preference Dividend CoverPreference Dividend Cover
• Equity Dividend CoverEquity Dividend Cover
• Debt Service Coverage RatioDebt Service Coverage Ratio
•

33. USER BASEDUSER BASED
CLASSIFICATIONCLASSIFICATION
• FOR SHORT TERM CREDITORSFOR SHORT TERM CREDITORS
• (1)(1) Current RatioCurrent Ratio
• (2)(2) Quick / Liquid Ratio / Acid Test RatioQuick / Liquid Ratio / Acid Test Ratio
• (3)(3) Super Quick RatioSuper Quick Ratio
• (4)(4) Stock : Working Capital RatioStock : Working Capital Ratio
• (5)(5) Stock Turnover RatioStock Turnover Ratio
• (6)(6) Stock Holding PeriodStock Holding Period
• (7)(7) Creditor Payment PeriodCreditor Payment Period
(8)(8) Creditor Turnover RatioCreditor Turnover Ratio

34. FOR LONG TERMFOR LONG TERM
CREDITORSCREDITORS
• Capital Gearing RatioCapital Gearing Ratio
• Debit : Equity RatioDebit : Equity Ratio
• Proprietary RatioProprietary Ratio
• Long Term Borrowing : Total Asset RatioLong Term Borrowing : Total Asset Ratio
• Fixed Asset : Net worthFixed Asset : Net worth
• Interest Coverage RatioInterest Coverage Ratio
• Debt Service Coverage RatioDebt Service Coverage Ratio

35. FOR SHARE HOLDERSFOR SHARE HOLDERS
• Return on Investment (ROI) or Return on CapitalReturn on Investment (ROI) or Return on Capital
Employed (ROCE)Employed (ROCE)
• Return on Proprietary / Shareholder fundReturn on Proprietary / Shareholder fund
• Return on Equity Shareholder fundReturn on Equity Shareholder fund
• Earning per shareEarning per share
• Dividend per shareDividend per share
• Dividend payout RatioDividend payout Ratio
• Price Earning RatioPrice Earning Ratio
• Preference Dividend CoverPreference Dividend Cover
• Equity Dividend CoverEquity Dividend Cover

36. FOR MANAGEMENTFOR MANAGEMENT
• Return on Investment (ROI) or Return onReturn on Investment (ROI) or Return on
Capital Employed (ROCE)Capital Employed (ROCE)
• Debtor Turnover RatioDebtor Turnover Ratio
• Debtor Collection PeriodDebtor Collection Period
• Creditor Payment periodCreditor Payment period
• Creditor Turnover RatioCreditor Turnover Ratio
• Stock Turnover RatioStock Turnover Ratio
• Stock Holding PeriodStock Holding Period

37. FOR MANAGEMENTFOR MANAGEMENT
• Gross Profit RatioGross Profit Ratio
• Net Profit RatioNet Profit Ratio
• Operating Net Profit RatioOperating Net Profit Ratio
• Operating RatioOperating Ratio
• Proprietary RatioProprietary Ratio
• Fixed Asset : Net WorthFixed Asset : Net Worth
• Long Term Borrowing : Total AssetsLong Term Borrowing : Total Assets