Financial Statements Vertical Analysis
Financial statement analysis is the examination and analyses of a company’s financial statements and documents as a guide in making better economic decisions.
Financial statements include balance sheet, statement of cash flow, statement of changes in equity, income statement and balance sheet; and they are analyzed through a process using different techniques so as to evaluate the risk of performance, financial health, and the future of an organization, this process is usually referred to as financial statement analysis.
Financial statement analysis is used by different stakeholders such as the government, the general public, and decision makers within the organization. There are various methods of analysis such as fundamental analysis, horizontal analysis, vertical analysis and DU pont analysis to name few.
Vertical analysis of financial statement is also referred to as normalization or common sizing. This method of financial statement analysis represents each entry for each for the three major aspects of accounts, assets, liabilities and equities in a balance sheet as a proportion of the whole account; and it as well gives detailed information on a company’s financial state.
It is also an analysis of financial statements done in percentages; the relationship between listings in a financial statement (usually a single statement) is noted by using showing all amounts as a percentage of the total amount.
To perform a basic vertical analysis, an individual statement for a reporting period or a comparative statement to build the usefulness of the analysis are needed.
It usually takes in comparative financial statements which includes columns comparing each line item to a measured period. Percentage in vertical analysis is computed using this formula
Percentage of base = Amount of individual item * 100
Amount of base
The vertical analysis can be carried out on balance sheets and on income statement.
- Using this procedure on income statement requires that each component of income statement is equated with the total sales revenue. These components are things like gross profit, operating expenses, income tax, cost of sales and net income, and they become expressed as percentage of sales.
- For a vertical analysis of the balance sheet, the three major categories accounts, i.e. assets, equity and liabilities are compared with the total assets. All items on the balance sheet are displayed as a ratio of the total assets. All assets are displayed as a percentage of the total assets, and all current liabilities (debts and equities) are represented as a percent of total liabilities.
The vertical analysis has a good number of benefits, and one of such is it enables the financial statement to be expressed within a laid down process across industries.
Also, it allows for easy comparison of the present to past periods for analysis such as annual quarter analysis and sequential quarter analysis, and that of long periods e.g five years. It is also advantageous because it can be used to easily compare enterprises of various companies with varying sizes, and this is so because all items are represented as a percentage of a common number.