Every business organization is mainly interested in making money; the primary aim of a business is the financial activities and their soundness. In order to ascertain the status of any business certain statements called ‘financial statements’ are duly and timely maintained by them. These statements hold high importance and are the main source of any decision making within an organization. Only the financial statements are not helpful in drawing out relevant information and conclusions. An effective and efficient financial analysis and interpretation are required to reach meaningful conclusions.
The term ‘Analysis’ means establishing a relevant relationship between two financial statements. Different elements of the statements are analyzed in a way that meaningful conclusions are drawn. The financial statements that are used for financial analysis are two statements maintained by the organization Profit and Loss Statement or Income Statement
Balance Sheet or Financial Position statement
These two statements are prepared at the end of a given period and provide an insight into the financial soundness and profitability of any business unit.
Analyzing these two statements empowers the business to make a sound business decision. It also allows them to stand strong in front of many outside parties who might be interested in knowing the status. They are widely accepted forms of ensuring that the business is sound and away from any immediate risks.
What financial analysis does is measure the profitability, efficiency and financial soundness along with the future business prospects of the organization.
The main purposes served by Financial Analysis are:Measuring profitability:- Any business established runs with an objective of earning returns above and beyond the funds invested. The satisfactory amount of profit earned by any business cannot be just calculated without satisfactory means.
The analysis of the financial reports helps in recognizing the amount of profit earned on the capital invested. It allows the business to ascertain whether they are in the capacity to pay interest and dividend to its investors and shareholders.
Identifying trends:- This is done using previous years data, a comparison easily brings out a trend in regards to the purchases, sales, expenses, profit (Gross, net) etc. The values of various assets and liabilities can be compared and the future trends and the business prospect can also be calculated.
Analyzing the growth potential of a business:- Using the trend analysis and few other analysis the growth prospects of a business are determined. Many decisions can be taken based on these analyses.
Competitive comparison to other firms: – Other firms in the same industry are considered a great landmark to analyze an organization’s position. The analysis of the financial statements allows business to make this comparative study and analyze their place in the industry. Relevant changes based on these comparisons can be done to improve the performances.
Targets can be created using the same.
Analyzing overall financial strength:- The use of Financial Reports Analysis is to assess the strength of the organization.
The major decisions and huge investments can be taken using these analyses like Purchasing of new machinery using internal funds or outside loans, how much should be loaned if at all, this questions can be easily answered using the information of the previous such investments and the outcomes from the same.
Assessing the solvency of the firm:- The techniques and tools applied for analysis help the firm to determine whether it has sufficient funds to meets its short-term and long-term liabilities or not.
Who all are interested in the Financial Report Analysis?
The various parties that are interested in the analysis of the financial reports come from both inside and outside of the organization. In fact, the widespread interest is the main reason behind the popularity of the Financial Analysis of the report.
The parties who are interested in the analysis of the financial statements are:-
Investors: The proprietors and shareholders are interested in the overall well being of the business. They are interested in both the profits as well as the over financial strength of the business.
Management: The management is interested in the financial position of the organization, they want to have a look at the performance of the enterprise which helps them make decisions related to budgets and accessing the performance of various sections and their heads.
Trade Unions: They are interested in the well being of the workers and require the analysis reports to negotiate on wages, terms of work and bonus.
Lenders: The leaders want to understand the short-term as well as the long-term standing of the business.
Suppliers and Trade Creditors: They are interested mainly in business solvency which means the ability of the business to meets its debt in case they fall short.
Tax Authorities: The tax liability fairly depends on the financial statements and thus they are required by the authorities.
Researchers: They use these analyses to research on the business affairs and practices and understand the industries overall performance using more than one organization’s reports.
Employees: Employees in an organization are interested to know the growth prospects of the business. This will be directly related to their remuneration, appraisals, and growth within the firm.
Government and their agencies: The government and it’s agencies require these financial analyses from the organization working within an industry as they determine the taxation policy and the regulate the activities within the industry using these reports.
Stock Exchanges: The business traded on stock Exchange becomes of interest to the Stock Exchange members as these Analyses reports are useful for their trades.