What is the difference between vertical analysis and

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.

Vertical http://blog.accountingcoach.com/vertical-analysis-horizontal-analysis/analysis, horizontal analysis and

financial ratios are part of financial statement analysis.

Harold Averkamp (CPA)

________________________________________________________________________________________________

Financial Statement Analysis Methods: Horizontal

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.
__________________________________________________________________________________________________

Using Ratio Analysis to Assess Financial Stability

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

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.

What is 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.

Particulars 2010 2009 Change % change

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%

Differences Between Vertical and Horizontal Analysis

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

Finch, Nigel, Summary of Financial Ratios (February 2008). Available at SSRN:

http://ssrn.com/abstract=1099869