Effective managers and analysts use both quantitative and qualitative company analysis to better understand the organizational performance and financial situation. While the quality part of the analysis includes gathering input from the company management, executives, clients, vendors, etc. the quantity type of analysis includes financial analysis of financial statements and ratios.
The ratios or KPIs in financial evaluation allow analysts and managers to get a better insight in to the cause and effect drivers of various components of the traditional financial statements – income statement or profit and loss statement, balance sheet report and the cash flow report.
When you analyze another company you can simply use the financial statements which are available for every public company.
These days you can download all the data online for various public corporations.
Financial ratio analysis utilizes the financial reports as a source for the data required to calculate different ratios. For example, in order to calculate the gross margin you can use the revenue and COGS data from the reports and get the value for your analysis.
On the other hand many managers use the common size ratio analysis which simply measures the percentage values or proportions of various elements as part of a certain element.
For example, we can easily calculate what percent of sales is the operating cost of the company or what percent is the operational profit margin for the business. This type of analysis is effective for comparison among different elements or items as well as tracking the same item over a period of time – by monitoring the item value (business metric) over a period of time managers can spot trends and developments.
The limitation of this approach is that we perform analysis in isolation. It is more effective to be able to use financial ratio analysis to compare the financial performance not only over a period of time or against other internal components but also against external benchmarks.
This is the reason why financial professionals, managers and analysis always use ratio analysis to evaluate the financial statements and performance of an organization.
By comparing company results against competitors in the same industry and even with particular leaders in various industries based on certain business competencies we are able to get a better financial insight in to the business.
By doing that we are certain that we understand the profit and cost structure, debt, liquidity, operational efficiency, management efficiency and dozens of other financial ratios which are critical for company analysis.
The bad news is that financial analysis especially ratio evaluation and reporting are time consuming and complex and this is the reason why many managers don’t use them.
However the good news is that Excel templates and tools for financial analysis can help analysts and managers save time and perform analysis and create financial reports. Learn more about Financial Dashboard for Excel