What are the Different Ways to Analyze Financial Statements?

Keith Koons

In order for anyone to properly analyze financial statements, there must be an initial goal that is to be gained from the experience. For example, if a business were attempting to discover how much was spent on monthly operating costs, an accountant would focus on the costs within those categories to generate a true monthly average. If the actual profit of a business were in question, then the total amount of annual revenue would be deducted from any expenses. Once investments and inventory were accounted for and converted back into a monetary figure, they could be added to the total in order to calculate the company's true profit. Other ways to analyze financial statements could be to locate wasted spending, shareholder profit, overall growth, or the business's financial stability.

Profit calculations in a financial statement can be impacted by factors such as moves by a company to pay down long-term debt.
Profit calculations in a financial statement can be impacted by factors such as moves by a company to pay down long-term debt.

When analyzing financial statements, it is important for a person to remember that each total is simply an overview. One column may have nothing to do with the next one, and the totals are only provided to allow investors to track how money was spent by the business. Likewise, corporations often show a total for sales, assets, liabilities, and liquid cash, but none of these necessarily tell the actual profit of the company. In fact, some businesses could have billions saved in corporate accounts while the company itself is in financial turmoil. The only way to tell is through financial analysis.

If a consumer wants to analyze financial statements to calculate profit, there could be a number of factors that alter the findings. When a corporation has a particularly strong year in sales, the chief financial officer (CFO) could decide to pay off a large portion of long-term debt in order to make subsequent years more profitable. On paper, this type of transaction could eliminate the vast majority of the company's profit for the year, even though the business made plenty of money. A struggling business could sell off excess equipment towards the close of a quarter to give the appearance of stronger profits as well. The only way for a person to determine the true profit is to analyze financial statements and make these types of adjustments.

Another way to analyze financial statements would be to compare corporate holdings for a series of years. Without even considering profit or debt, this method allows investors to determine how strong a business is in terms of stability. If the total assets were to decrease in consecutive years, for example, it may be a sign that the corporation is struggling to keep cash in hand for monthly expenses. When investors analyze financial statements and see a pattern of growth, that indicates that the business is not having overhead problems.

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