B Com Exam > B Com Notes > Financial Analysis and Reporting > Vertical Analysis - Ratio Analysis, Financial Analysis and Reporting
Vertical Analysis - Ratio Analysis, Financial Analysis and Reporting | Financial Analysis and Reporting - B Com PDF Download
Vertical analysis (also known as common-size analysis) is a popular method of financial statement analysis that shows each item on a statement as a percentage of a base figure within the statement.
To conduct a vertical analysis of balance sheet, the total of assets and the total of liabilities and stockholders’ equity are generally used as base figures. All individual assets (or groups of assets if condensed form balance sheet is used) are shown as a percentage of total assets. The current liabilities, long term debts and equities are shown as a percentage of the total liabilities and stockholders’ equity.
To conduct a vertical analysis of income statement, sales figure is generally used as the base and all other components of income statement like cost of sales, gross profit, operating expenses, income tax, and net income etc. are shown as a percentage of sales.
In a vertical analysis the percentage is computed by using the following formula:
A basic vertical analysis needs an individual statement for a reporting period but comparative statements may be prepared to increase the usefulness of the analysis.
Example:
An example of the vertical analysis of balance sheet and income statement is given below:
Comparative balance sheet with vertical analysis:
Current assets:
2008: (550,000 / 1,139,500) * 100 = 48.3%
2007: (530,000 / 1,230,500) * 100 = 43.3%
Comparative income statement with vertical analysis:
Cost of goods sold:
2008: (1,043,000/1,498,000) × 100 = 69.6%
2007: (820,000/1200,000) × 100 = 68.3%
Vertical analysis states financial statements in a comparable common-size format (percentage form). One of the advantages of common-size analysis is that it can be used for inter-company comparison of enterprises with different sizes because all items are expressed as a percentage of some common number. For example, suppose company A and company B belong to same industry. A is a small company and B is a large company. Company A’s sales and gross profit are $100,000 and $30,000 respectively whereas company B’s sales and gross profit are $1,000,000 and $300,000 respectively. If vertical analysis is conducted and sales figure is used as base, it would show a gross profit percentage of 30% for both the companies as shown below:
Company A and B
Comparative Income Statement
For the year ended
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Company A |
Company B |
|||
|
Sales |
100,000 |
100% |
1,000,000 |
100% |
|
Cost of goods sold |
70,000 |
70% |
700,000 |
70% |
|
|
——— |
|
———– |
|
|
|
30,000 |
30% |
300,000 |
30% |
|
|
——— |
|
———– |
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FAQs on Vertical Analysis - Ratio Analysis, Financial Analysis and Reporting - Financial Analysis and Reporting - B Com
| 1. What is vertical analysis in financial analysis and reporting? |  |
Vertical analysis is a technique used in financial analysis and reporting to analyze the financial statement data by expressing each item as a percentage of a base amount. It helps in understanding the proportion of each item in relation to the total amount and allows for easy comparison between different periods or companies.
| 2. How is ratio analysis used in financial analysis and reporting? | |
Ratio analysis is a tool used in financial analysis and reporting to evaluate the performance, profitability, liquidity, and solvency of a company. It involves calculating various ratios such as liquidity ratios, profitability ratios, and leverage ratios, and then comparing them with industry benchmarks or historical trends to assess the financial health and efficiency of the organization.
| 3. Why is financial analysis and reporting important for businesses? | |
Financial analysis and reporting are crucial for businesses as they provide valuable insights into the financial performance, stability, and growth prospects of the company. It helps in making informed decisions, identifying areas of improvement, assessing the financial risks, attracting investors, securing loans, and complying with regulatory requirements. Additionally, it enables stakeholders to understand the financial health of the business and make informed decisions.
| 4. What are the key components of financial analysis and reporting? | |
The key components of financial analysis and reporting include the income statement, balance sheet, and cash flow statement. The income statement shows the company's revenues, expenses, and net income over a specific period. The balance sheet provides a snapshot of the company's assets, liabilities, and equity at a given point in time. The cash flow statement shows the inflow and outflow of cash during a specific period, helping to assess the company's liquidity and cash management.
| 5. How can financial analysis and reporting help in decision-making processes? | |
Financial analysis and reporting provide vital information for decision-making processes. It helps in evaluating the financial performance, profitability, and growth potential of different projects or investments. By analyzing the financial statements and ratios, businesses can identify areas of improvement, assess the feasibility of new ventures, determine the optimal capital structure, and make informed decisions regarding resource allocation, cost management, pricing strategies, and investment opportunities.
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