Slide 1

Financial statement analysis

All business transactions have to record, classify and summarize various business transactions, which should be presented in an effective and meaningful way.

Recording the various business transaction - Preparation of Journal

Classifying- Preparation of Ledgers

Summarizing-

Preparation of Trial Balance Financial statement

Financial statement refers to the two statements Profit and Loss A/c, Balance sheet. In addition of the above two statements the following statements such as Profit and Loss Appropriation Account and Statement of Changes in financial position are also prepared.

Profit & Loss a/c or reveals profit earned or loss Income statement suffered due to business operation.

Profit & Loss Appropriation A/C reveals the amount of fund retained in the business after the payment of tax and dividend.

3. Balance Sheet - reveals financial position as on the date (about what the business owns & Owes)

4. Statement changes in Financial -reveals the Sources and Applications of Positionfunds.Nature of Financial statement

Financial statements are generally prepared for every accounting year based upon the recorded facts.

According to the American Institute of Certified Public Accountants Financial Statements are prepared for the purpose of presenting periodical review of report on progress by the management and deal with the status of investment in the business and the results achieved during the period. Financial statement reflect a combination of recorded facts, accounting principles and personal judgement.

3 factors are

Recorded FactsAccounting PrinciplesPersonal Judgements3 factors are

Recorded Facts- information available in financial statements show only the recorded facts and do not show the information which are not recorded in the books of accounts.

Eg. In the accounting records fixed assets are shown at cost price less depreciation and do not record the market value of that assets.

2. Accounting Principles Accounting conventions such as consistency, conservatism, full disclosure and materiality are followed while preparing the financial statements.

3. Personal Judgements Uses of Financial Statements

To the Share holders

To the Management

To the Creditors

To the Trade Creditors

To the Employees

To the Government

Stock Exchanges and Trade Associations

Limitations of Financial Statements

It presents only Interim Reports

It ignores qualitative information

It ignores economic and social factors

It shows historical information only

It is influenced by personal judgements

It makes comparison difficult Meaning:

Ratio refers to the numerical or quantitative relationship between two figures.

Definition

According to Myers, ratio is define to study of relationship among the various financial factors of the enterprise.

Ratio analysis is an important and age old technique of financial analysis.

Purpose of Ratio Analysis

To study the short term solvency of the firm liquidity of the firm.

To study the long term solvency of the firm leverage position of the firm.

To interpret the profitability of the firm Profit earning capacity of the firm.

To identify the operating efficiency of the firm turnover of the ratios.

Uses of Ratio Analysis

Easy to understand the financial position of the firm.

The ratio analysis helps the parties to read the change that have taken place in the financial performance of the firm from one time period to another.

Measures of expressing the financial performance and position.It acts as a measure of financial position through liquidity ratios and leverage ratios and also a measure of financial performance through profitability ratios and turnover ratios.

Intra firm analysis on the financial information over many number of years.

The financial performance and position of the firm can be analysed and interpreted within the firm in between the available financial information of many number of years, which portrays either increase or decrease in the financial performance.Inter firm analysis on the financial information within the industry.

The financial performance of the firm is studied and interpreted along with the similar firms in the industry to identify the present status of the respective firm among others.

Possibility for financial planning and control.

It not only guides the firm to earn in accordance with the financial forecasting, but also helps the firm to identify the major source of expenses which has got greater influence on the earnings.Limitations of Ratio Analysis

It is a dependant tool of analysis

The perfection and effectiveness of the analysis mainly depends upon the preparation of accurate and effectiveness of the financial statements. It is subject to the availability of fair presentation of data in the financial statements.

Ambiguity in the handling of termsthe tools of analysis taken for the study of inter-firm analysis on the profitability of the firms lead to various complications.

For eg. For profitability analysis while considering of profit from different firms will get differ because one firm will take Profit After Taxes (PAT), Another will consider Profit Before Interest and Taxes (PBIT)Third approach Consider only Net profit

Qualitative factors are not considered

Only quantitative factors are taken into consideration rather than qualitative factors of the enterprise, consumers and customers.

Not ideal for the future forecastRatio analysis is the outcome of analysis of historical transactions known as postmortem analysis. So it is not possible to predict the future exactly with past performance.

Time value of money is not consideredIt does not give any room for time value of money for future planning or forecasting of financial performance.