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horizontal analysis?

Vertical analysis reports each amount on a financial statement as a percentage of another item. For example,

the vertical analysis of the balance sheet means every amount on the balance sheet is restated to be a percentage

of total assets. If inventory is $100,000 and total assets are $400,000 then inventory is presented as 25

($100,000 divided by $400,000). If cash is $8,000 then it will be presented as 2 ($8,000 divided by $400,000).

The total of the assets will now add up to 100. If the accounts payable are $88,000 they will be presented as 22

($88,000 divided by $400,000). If owner’s equity is $240,000 it will be presented as 60 ($240,000 divided by

$400,000). The restated amounts from the vertical analysis of the balance sheet will be presented as a common-

size balance sheet. A common-size balance sheet allows you to compare your company’s balance sheet to

another company’s balance sheet or to the average for its industry.

Vertical analysis of an income statement results in every income statment amount being presented as a

percentage of sales. If sales were $1,000,000 they would be restated to be 100 ($1,000,000 divided by

$1,000,000). If the cost of goods sold is $780,000 it will be presented as 78 ($780,000 divided by sales of

$1,000,000). If interest expense is $50,000 it will be presented as 5 ($50,000 divided by $1,000,000). The

restated amounts are known as a common-size income statement. A common-size income statement allows you

to compare your company’s income statement to another company’s or to the industry average.

Horizontal analysis looks at amounts on the financial statements over the past years. For example, the amount

of cash reported on the balance sheet at December 31 of 2006, 2005, 2004, 2003, and 2002 will be expressed as

a percentage of the December 31, 2002 amount. Instead of dollar amounts you might see 134, 125, 110, 103,

and 100. This shows that the amount of cash at the end of 2006 is 134% of the amount it was at the end of 2002.

The same analysis will be done for each item on the balance sheet and for each item on the income statement.

This allows you to see how each item has changed in relationship to the changes in other items. Horizontal

analysis is also referred to as trend analysis.

financial ratios are part of financial statement analysis.

________________________________________________________________________________________________

vs. Vertical Analysis

Melissa Bushman, May 7, 2007

http://www.associatedcontent.com/article/233234/financial_statement_analysis_methods.html?

cat=3

Introduction

Financial statement information is used by both external and internal users, including investors,

creditors, managers, and executives. These users must analyze the information in order to make

business decisions, so understanding financial statements is of great importance. Several

methods of performing financial statement analysis exist. This article discusses two of these

methods: horizontal analysis and vertical analysis.

Horizontal Analysis

Methods of financial statement analysis generally involve comparing certain information. The

horizontal analysis compares specific items over a number of accounting periods. For example,

accounts payable may be compared over a period of months within a fiscal year, or revenue may

be compared over a period of several years. These comparisons are performed in one of two

different ways.

Absolute Dollars

One method of performing a horizontal financial statement analysis compares the absolute dollar

amounts of certain items over a period of time. For example, this method would compare the

actual dollar amount of operating expenses over a period of several accounting periods. This

method is valuable when trying to determine whether a company is conservative or excessive in

spending on certain items. This method also aids in determining the effects of outside influences

on the company, such as increasing gas prices or a reduction in the cost of materials.

Percentage

The other method of performing horizontal financial statement analysis compares the

percentage difference in certain items over a period of time. The dollar amount of the change is

converted to a percentage change. For example, a change in operating expenses from $1,000 in

period one to $1,050 in period two would be reported as a 5% increase. This method is

particularly useful when comparing small companies to large companies.

Vertical Analysis

The vertical analysis compares each separate figure to one specific figure in the financial

statement. The comparison is reported as a percentage. This method compares several items to

one certain item in the same accounting period. Users often expandupon vertical analysis by

comparing the analyses of several periods to one another. This can reveal trends that may be

helpful in decision making. An explanation of Vertical analysis of the income statement and

vertical analysis of the balance sheet follows.

Income Statement

Performing vertical analysis of the income statement involves comparing each income statement

item to sales. Each item is then reported as a percentage of sales. For example, if sales equals

$10,000 and operating expenses equals $1,000, then operating expenses would be reported as

10% of sales.

Balance Sheet

Performing vertical analysis of the balance sheet involves comparing each balance sheet item to

total assets. Each item is then reported as a percentage of total assets. For example, if cash

equals $5,000 and total assets equals $25,000, then cash would be reported as 20% of total

assets.

__________________________________________________________________________________________________

Melissa Bushman, Jan 10, 2007

http://www.associatedcontent.com/article/111527/using_ratio_analysis_to_assess_financial_pg4.h

tml?cat=3

Introduction

Investors and other external users of financial information will often need to measure the

performance and financial health of an organization. This is done in order to evaluate the success

of the business, determine

any weaknesses of the business, compare current and past performance, and compare current

performance with industry standards. Financially stable organizations are desirable, because a

financially stable business is one that successfully ensures its ability to generate income for

investors and retain or increase value.

There are many different methods that can be used alone or together to help investors assess

the financial stability of an organization. One of the most common methods is financial ratio

analysis. The basic ratios include five categories: profitability ratios, liquidity ratios, debt ratios,

and asset activity ratios.

Profitability Ratios

Profitability ratios measure the profitability of the organization. They include the gross profit

margin, operating profit margin, net profit margin, the return on assets (ROA) ratio, and the

return on equity (ROE) ratio.

The gross profit margin is calculated by taking the amount of gross profit and dividing it by sales.

This ratio is used to determine the amount of profit remaining from each sales dollar after

subtracting the cost of goods sold. Example: a gross profit margin of 0.05 indicates that 5% of

sales revenue is left to use for purposes other than the cost of goods sold.

The operating profit margin is calculated by taking earnings before income and taxes and

dividing it by sales. This ratio is used to determine how effective the company is at keeping

production costs low. Example: an operating profit margin of 0.17 indicates that after subtracting

all operating expenses 17% of sales revenues remain.

The net profit margin is calculated by taking the net earnings available to common stockholders

and dividing it by sales. This ratio is used to determine the amount of net profit for each dollar of

sales that remains

after subtracting all expenses. Example: a net profit margin of 0.084 indicates that 8.4% of each

sales dollar remains after all expenses are paid.

The ROA ratio is calculated by taking the net earnings available to common stockholders (net

income) and dividing it by total assets. This ratio is used to determine the amount of income

each dollar of assets generates. Example: an ROA ratio of 0.0568 indicates that each dollar of

company assets produced income of almost $0.06.

The ROE ratio is calculated by taking the net earnings available to common stockholders and

dividing it by common stockholders' equity. This ratio is used to determine the amount of income

produced for each dollar that common stockholders have invested. Example: An ROE ratio of

0.0869 indicates that the company returned 8.69% for every dollar invested by common

stockholders.

Liquidity Ratios

Liquidity ratios measure the organizations ability to meet short-term obligations. These include

the current ratio and the quick ratio.

The current ratio is calculated by taking the total amount of current assets and dividing it by the

total amount of current liabilities. This ratio is used to determine whether the company has a

sufficient amount of current assets to pay off current liabilities. Example: a current ratio of 2.57

indicates that the company has $2.57 worth of current assets for every $1.00 of current

liabilities.

The quick ratio is calculated by taking the total amount of current assets less inventory and

dividing it by the total amount of current liabilities. This ratio is used to determine the company's

ability to repay current liabilities after the least liquid of its current assets is removed from the

equation. Example: a quick ratio of 2.48 indicates that the company could pay off 248% of its

current liabilities by liquidating all current assets other than inventory.

Debt Ratios

Debt ratios measure the amount of debt an organization is using and the ability of the

organization to pay off the debt. These include the debt to total assets ratio and the times

interest earned ratio.

The debt to total assets ratio is calculated by taking the amount of total debt and dividing it by total assets. This

ratio is used to determine the percentage of the company's assets that is financed with debt.

Example: a debt to total assets ratio of 0.35 indicates that 35% of company assets are financed with non-owner

funds.

The times interest earned ratio is calculated by taking earnings before interest and taxes and dividing it by

interest expense. This ratio is used to determine the margin of safety in the ability to repay interest payments

with current period operating income. Example: a times interest earned ratio of 5.67 indicates that the company

earned $5.67 worth of operating income for each $1.00 of interest expense incurred.

Asset activity ratios measure how efficiently the company is using its assets. These include the average

collection period ratio, the inventory turnover ratio, and the total asset turnover ratio.

The average collection period ratio is calculated by taking the total accounts receivable and dividing it by the

average credit sales per day, which is the annual credit sales divided by 365. This ratio is used to determine how

long it takes a company to collect credit sales from customers. Example: an average collection period ratio of

65.70 indicates that on average it takes 65.70 days for customers to pay off their account balances.

The inventory turnover ratio is calculated by taking the total sales and dividing it by total inventory. This ratio is

used to determine if the level of inventory is appropriate in regard to company sales. A high ratio indicates that

the company has inventory that sells well, while a low ratio means that the company has inventory that does not

sell well. Example: an inventory turnover ratio of 66.67 indicates that inventory was sold 66.67 times during the

year.

The total asset turnover ratio is calculated by taking total sales and dividing it by total assets. This ratio is used

to determine how effective the company is at using all assets to generate sales. Example: a total asset turnover

ratio of 0.68 indicates that the dollar amount of sales was 68% of all assets.

Conclusion

Financial ratio analysis can be an invaluable resource to investors and external users who must determine the

financial stability of an organization. This is important, because financial stability represents the

soundness, dependability, and efficiency of the business. Understanding how to calculate and interpret financial

ratios is an important step in analyzing the financial health of an organization.

_________________________________________________________________________________________

_

Horizontal analysis is one of the most important parts of financial analysis. But what is horizontal analysis in

accounting and financial management? Read on for more on horizontal analysis.

Quite simply, the horizontal analysis is the financial statements of a company of successive years presented

side-by-side. The goal of horizontal analysis is to compare the figures of the current period with that of the past

period. This helps the company and its shareholders analyze their performance and find out areas of

improvement. Read on to know more about trend analysis.

Horizontal analysis is done for both income statements and balance sheets. The idea is the same. The figures for

the different heads under the income statements and the balance sheets are placed side-by-side so that the reader

can compare the two and understand how the company is doing. The horizontal analysis also includes two more

columns: the column denoting actual numerical change over two periods and another denoting percentage

change over the two periods. The first column gives the difference between the past period and the current

period, while the percentage column shows what percentage of the past figure is the figure denoting the change.

Read on for more on balance sheet analysis.

Horizontal analysis is an important part of the financial statements and annual reports. It places the facts very

simply in front of the shareholder and makes the job of analyzing the improvements or the lack of it very simple

for the shareholder. Horizontal analysis helps the shareholder understand the change and the percentage change.

And if there is no improvement or in fact a reduction, then the board is compelled to explain the situation to the

shareholder and what they intend to do in the future to fix it. Read on for more on financial planning and

budgeting to help you manage your costs better.

Horizontal Analysis Example

Let us try and understand horizontal analysis better with this horizontal analysis example for an income

statement.

Sales $52000 $48000 $4000 8.3%

Cost of Goods Sold $36000 $31500 $4500 14.3%

Gross Margin $16000 $16500 - $500 - 3%

Operating Expenses

Selling Expenses $7000 $6500 $500 7.7%

Administrative Expenses $5860 $6100 - $240 - 3.9%

Total Operating Expenses $12860 $12600 $260 2.1%

Net Operating Income $3140 $3900 - $760 - 19.5%

What are the differences between vertical and horizontal analysis? The main difference between vertical

analysis and horizontal analysis is that while horizontal analysis compares the figures under different heads in

the income statement and the balance sheet, vertical analysis represents each figure as a percentage of the total

along with the change in both over the past year. So, in vertical analysis, the figures are not only compared to

the past year, but they are also represented as a percentage of the total cost or total assets/liabilities as may be

the case.

So, this was all about the horizontal analysis and the difference between horizontal and vertical analysis. The

horizontal analysis formula is very simple. All you need to do is find the difference between the past and

present figures by subtraction!

By Arjun Kulkarni

Published: 4/15/2010

http://www.buzzle.com/articles/horizontal-analysis.html

http://ssrn.com/abstract=1099869

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