>> January 16, 2011

Financial statement analysis can be used for many purpose in business. With this analysis, management can take decision regarding more investment in inventory by buying or making it or other decisions like investment in different fixed assets. If financial statement analysis shows the low amount of fund for operation, at that time, company can take decision of issuing new share capital or managing of new bank loan. by Simple comparison of past items of financial statements with the current items, we can analyze the profitability, solvency, liquidity and stability of company. Comparative income statement. comparative balance sheet and ratio analysis are the main tools of analyzing financial statement.

Steps to analyze financial statement

1st Step. Calculate the Different Ratio of past and current years:

Suppose, you want to check profitability of company. At that time, you will calculate gross profit ratio, operating cost ratio and net profit ratio of both current year and previous year.

Current year gross profit ratio = 185000/800000 X 100 = 23.13%

Previous year gross profit ratio = 105000/700000 X 100 = 15%

Current year operating cost ratio = 36000/800000 X 100 = 4.56%

Previous Year operating cost ratio = 35700/700000 X 100= 5.10%

Current year net profit ratio = 154610/800000 X 100= 19.32

Previous year net profit ratio = 68750/700000 X 100 = 9.82%

2nd Step. Interpretation of Facts

It is the important step of analyzing of financial statement. In this step, we explain facts in simple words, from above ratio, we can explain that gross profitability of company has improved because it increased from 15% and reached at 23.13%.

Company has also succeeded to reduce his operating cost. It decreased because previous year operating cost was 5.10% but this year, it is just 4.56% and its result, we are seeing that net profitability of company has reached up to 19.32% of total sale.

Note : This just one example in which we have checked the profitability position of company and same way we can also check solvency position of company by calculating debt equity ratio or other ratios. Solvency means power of company to pay his all long term debts and other liabilities. Suppose if debt equity ratio is 1: 4, it means company is more solvent because company’s shareholder fund is 4 and debt is just. so, debt can easily be paid anytime.