Business Financial Analysis Guide
One of the biggest advantages of comparing financial statements over time is discovering trends and analyzing the findings. For instance, if cash and cash equivalents are down year-over-year, leaders are able to identify the trend and develop explanations for the negative change. The same goes for inventory accounts, accounts receivable and other line items on standard financial statements. Comparing three or more years' statements enhances the trend analysis and helps management forecast future operating activity.
Financial statements allow managers to gauge performance on an organizational and departmental level. By evaluating the percentage increase or decrease of expenses and sales, business leaders can measure operating performance and adjust their strategies. If there are certain types of expenses reducing operating income, management can analyze individual departments to identify the root cause. Comparing multiple years’ statements allows all stakeholders to determine if performance is improving or getting worse.
Comparing multiple years’ financial reports also helps to identify errors, omissions or intentional misreporting in financial statements. Line items may vary drastically year-over-year, a red flag that discrepancies are present. Also, comparing ratios and percentages helps to identify inconsistencies not related to actual operating activity. Fluctuations in account balances are to be expected, but extreme variances are an indicator that specific accounts require further analysis to determine the root cause of the change.
Business leaders often take multiple years of financial statements and use them to make strategic decisions. If a company’s cash flows are waning and net income is falling, leaders can identify the trend and adjust operations to meet the challenges their organization faces. Similarly, if revenues are rising and inventories are falling year-over-year, leaders may want to consider expanding operations and investing money in capital projects. Financial reports aid management in making the decisions that will ultimately guide their organization's growth or decline.