Module 7

Interpretation and
Analysis of
Accounts
FSA Dr. Varadraj Bapat, IIT Mumbai
Index

Financial Statement Analysis

Vertical & Horizontal Analysis
Horizontal vs. Vertical Balance
Sheet

FSA Dr. Varadraj Bapat, IIT Mumbai

Analysis of Financial
Statements

Financial statement analysis refers to

detailed study of these statements to
arrive at useful interpretations.
For the users, the details in the
financial statements signify only raw
data. This raw data needs to be re-
organized, processed and converted
into relevent and useful information.

FSA Dr. Varadraj Bapat, IIT Mumbai

Horizontal and Vertical
Analysis

The analysis of financial

statements is done by various
techniques like Horizontal analysis
and Vertical Analysis.

FSA Dr. Varadraj Bapat, IIT Mumbai

Horizontal Analysis

Horizontal analysis involves

comparison of two years for the
same concerns. It involves
preparation of Comparative
Statement.

FSA Dr. Varadraj Bapat, IIT Mumbai

 Horizontal
Analysis
Every item on the financial
statement
is compared with that in the
previous year.
The change is calculated in
absolute amount
and also as a percentage of that
base
Vertical Analysis

Vertical analysis on the other hand

involves finding out the relationship
between two items in respect of the
same concern and in same year. It
involves preparation of Common-
size Statement.

FSA Dr. Varadraj Bapat, IIT Mumbai

 Vertical
Analysis...
compares each item in a financial
statement to a base number set to
100%.
Every item on the financial
statement is then reported as a
percentage of that base.
 Common-size
Statements
On the income statement, each item is
expressed as a percentage of net sales.
On the balance sheet, the common size is
the total on each side of the accounting
equation.
Common-size statements are used to
compare one company to other companies,
and to the industry average.
they are also used to compare financials
with earlier years.
 Benchmarking
Percent of Net
Sales
Company A Company B

Cost of goods sold Operating

expenses
Income tax Net income
Balance Sheet
horizontal format

Financial statements are

traditionally prepared for the
owners of the organisation. A
typical traditional balance sheet
is prepared in Horizontal format.

FSA Dr. Varadraj Bapat, IIT Mumbai

 Horizontal
Balance Sheet

Liabilities ` Assets `
Capital Fixed Assets
Reserves & Surplus Investments
Long Terms Loans Current Assets
Short Term Loans Loans & Advances
Current Liabilities
Provisions
Total Total

FSA Dr. Varadraj Bapat, IIT Mumbai

Vertical format

The conventional horizontal

form of Balance Sheet is not
suitable for financial analysis,
precisely because
1. It is designed for the owner.
FSA Dr. Varadraj Bapat, IIT Mumbai
 Vertical format

2. Its presentation and sequence or

order of items is relevant only in
the event of liquidation; it is
unsuitable for financial analysis
of a going concern.
FSA Dr. Varadraj Bapat, IIT Mumbai
Vertical format

Hence financial analysts generally

converts horizontal balance sheet,
into vertical format which is more
suitable for financial analysis,
especially in ratio analysis.

FSA Dr. Varadraj Bapat, IIT Mumbai

Vertical Balance Sheet

Particulars `
I. SOURCES OF FUNDS
1. Owners Fund
(a) Capital
(b) Reserves & Surplus
Less: P & L A/c Dr. Balance
Misc. Expenditure not w/of
FSA Dr. Varadraj Bapat, IIT Mumbai
Vertical Balance Sheet

Particulars `
Own Funds or Net Worth
2. Loan Funds
(a) Secured Loan
(b) Unsecured Loan
Total Loan Funds
Total Capital Employed

FSA Dr. Varadraj Bapat, IIT Mumbai

Vertical Balance Sheet

Particulars `
II. APPLICATION OF FUNDS
1. Fixed Assets
A. Tangible Assets (Gross Block)
Less: Depreciation
Net Block

FSA Dr. Varadraj Bapat, IIT Mumbai

Vertical Balance Sheet

B. Intangible Assets `
2. Long Term / Trade Investments
3. Working Capital
Current Asset
Less: Current Liabilities
Net Current Assets
Total Assets Employed

FSA Dr. Varadraj Bapat, IIT Mumbai