FINANCIAL STATEMENT ANALYSIS
Horizontal analysis is the percentage analy-
sis of increases and decreases in corre-
sponding statements. The percent change in
the cash balances at the end of the pre-
ceding year from the end of the current year
is an example. Vertical analysis is the
percentage analysis showing the relation-
ship of the component parts to the total in a
single statement. The percent of cash as a
portion of total assets at the end of the
current year is an example.
Comparative statements provide information
as to changes between dates or periods.
Trends indicated by comparisons may be far
more significant than the data for a single
date or period.
Before this question can be answered, the
increase in net income should be compared
with changes in sales, expenses, and assets
devoted to the business for the current year.
The return on assets for both periods should
also be compared. If these comparisons
indicate favorable trends, the operating per-
formance has improved; if not, the apparent
favorable increase in net income may be off-
set by unfavorable trends in other areas.
You should first determine if the expense
amount in the base year (denominator) is
significant. An 80% or more increase of a
very small expense item may be of little con-
cern. However, if the expense amount in the
base year is significant, then over an 80%
increase may require further investigation.
Generally, the two ratios would be very
close, because most service businesses sell
services and hold very little inventory.
The amount of working capital and the
change in working capital are just two indi-
cators of the strength of the current position.
A comparison of the current ratio and the
quick ratio, along with the amount of working
capital, gives a better analysis of the current
position. Such a comparison shows:
Current ratio .
Quick ratio .
It is apparent that, although working capital
has increased, the current ratio has fallen
from 2.5 to 2.0, and the quick ratio has fallen
from 1.4 to 0.8.
The bulk of Wal-Mart sales are to final cus-
tomers that pay with credit cards or cash. In
either case, there is no accounts receivable.
Procter & Gamble, in contrast, sells almost
exclusively to other businesses, such as
Wal-Mart. Such sales are “on account,” and
thus, create accounts receivable that must
be collected. A recent financial statement
showed Wal-Mart’s accounts receivable
turning 64 times, while Procter & Gamble’s
turned only 6 times.
No, an accounts receivable turnover of 5
with sales on a n/45 basis is not satisfactory.
It indicates that accounts receivable are col-