Financial statement analysis helps to know the financial position of the business. A company’s financial statement gives information about the company’s financial position, profitability, and growth potential of the company. Analysis of financial statements involves reviewing the financial statements of an organization to gain an understanding of a firm’s financial situation. It usually includes a balance sheet, income statement, statement of cash flows, and various supplementary notes. External shareholders use it to understand the overall health of an organization as well as to evaluate financial performance and business value, whereas internal stakeholders use it as a tool for managing the finances.
Why is a financial statement important?
Financial statements are the financial records that show a company’s business activity and financial performance. Companies must report their financial statements every year, without fail. Various authorities monitor that the markets and companies are playing by the same rule and that markets function efficiently. Investors can also analyse and compare one company with another easily. Financial statements play an important role in decision making as they provide enormous information about a company’s assets, liabilities, revenues, expenses, debt load, and the ability to meet its short-term and long-term financial obligations.
Benefits of accurate financial statement analysis
A detailed financial statement analysis meets the needs of stakeholders and various other parties involved. Financial statement analysis can benefit the organization in a number of ways. It provides stakeholders with information that helps them to make informed decisions regarding investing. It also provides information about an organization’s financial health and provides an understanding of how the company conducts its business. The benefits include:
Measures impact
The financial statement analysis is a method for tracking the impact it will have on the company’s bottom line. For instance, take a look at your company’s income statement and note the direct expenses related to the revenue for that period.
Helps in fixing a budget
Financial statements analysis also helps in managing and planning budgets for the firm. A proper understanding of your company’s finance is essential to know where the company is lacking. Financial statement analysis provides the overall view of a company’s financial health.
Cuts down unnecessary expenses
Seeing your company’s expenses in a detailed way in both income and cash flow statements can highlight possible areas where it’s possible to cut costs. Analyze expenses using a Flash Report template in Google Sheets to know how they will impact your company’s total income. It can be an eye-opening chance to save money and reallocate spending where it’s needed most.
Plans a better future
Keeping in mind the broader health of an organization is vital when managing a team. Analysing the financial statements will help you to understand the ins and outs of your company’s finances in a better way and gives you better picture clarity, and provide a proper guide on how to achieve your business goals and plan a better future.
Scope of financial statement analysis
Financial statements record every financial transaction in order to keep a close watch on the economic status of a company. Financial statements are written documents for users and stakeholder groups, and as a result, they have a wide range of purposes and broad scope. The information in the statement is used by owners, managers, investors, creditors, analysts, and others interested in a company’s performance and financial position. The most important financial statements in financial statement analysis include income statements, balance sheets, statements of cash flows, and owner’s equity. The scope of financial statement analysis evaluates a company’s financial performance that requires you to-
* Analyse financial ratio to assess profitability, solvency, working capital management, liquidity, and operating effectiveness.
* Compare past performance with the current position of the firm.
* Compare with other companies to find out how well your competitors are performing.
Limitations of financial statement analysis
Though there are many benefits of using a financial statement analyser, there are some limitations, which are discussed below:
It is not apt for inflation
Financial statement analysis is not carried out by taking inflation into consideration. Say the inflation rate is relatively high, then the amounts associated with assets and liabilities in the balance sheet will appear inordinately low since they are not adjusted for inflation. This mostly applies to long-term assets.
It covers only a specific period of time
A user of a financial statement can gain an incorrect view of the financial results of a business by only looking at one reporting period. Anyone period may vary from the normal operating results of a business, maybe due to a sudden spike in sales or seasonality effects. Viewing a large amount of data can help to get better financial results for a company.
It is not possible to compare the values of two companies
An investor wanting to overview and compare the financial statement of two different organizations cannot do so with the analysis of financial statements. When he/she wants to compare the values of different companies, their financial statements are not always comparable because every entity uses different accounting practices. So practically, it is just not possible to compare two different modes of technique.
It does not offer a precision value
The financial statement involves many terms which cannot be stated beforehand, so precision is not guaranteed during the conduction of financial statement analysis. It provides information about either historical results or the financial status of a business as of a specific date. The statements may not necessarily provide any value that will predict future decisions.
Conclusion
Despite its limitations, it is still a great tool to know the financial health of a company. By now, you can guess how much it is important to analyze the reports correctly. To make your work a lot easier, visit Perfios. Our expert professional knows their job well. Be relaxed and focus on other important work of your firm. Turn the analysis of your financial statements into the most valuable resource for your firm with their services.