What is the Objective of Financial Statement Analysis?

The role of financial statement analysis is to use financial reports prepared by companies, combined with other information, to evaluate the past, current, and potential performance and financial position of a company for the purpose of making investment, credit, and other economic decisions.

Financial statement analysis starts when the role of financial reporting is done. Accountants who record the transactions of the companies are financial accountants. Once their job is done, the financial statement analyst can come into picture and start analyzing the financial statements reports. Financial analysis within the organization though does not necessarily rely on financial statements but rather on financial information available within the company.

In financial statement analysis, we use financial reports and other information. So what are these financial reports? Let’s take a look at these reports that are being used by financial analyst to evaluate the past, current, and potential performance and financial position of a company for the purpose of making investment, credit, and other economic decisions.

1.      Balance Sheet - (also called the statement of financial position or statement of financial condition) presents a company’s current financial position by disclosing the resources the company controls (assets) and its obligations to lenders and other creditors (liabilities) at a specific point in time. Owners’ equity represents the excess of assets over liabilities.

2.      Income Statement - presents information on the financial results of a company’s business activities over a period of time.

3.      Statement of Changes in Equity - variously called the “statement of changes in owners’ equity” or “statement of changes in shareholders’ equity,” primarily serves to report changes in the owners’ investment in the business over time.

4.      Cash Flow Statement- disclosing the sources and uses of cash helps creditors, investors, and other statement users evaluate the company’s liquidity, solvency, and financial flexibility.

5.      Financial Notes and Supplementary Schedules - The notes provide information that is essential to understanding the information provided in the primary statements. The notes disclose the basis of preparation for the financial statements.

6.      Management Commentary or Management’s Discussion and Analysis - The management commentary or MD&A is a good starting place for understanding information in the financial statements.

In the Philippines, aside from the above listed reports that publicly listed companies must provide every year, they also need to disclose other information to the investing public. Below are some of the reports required to be submitted to Philippine Stock Exchange (PSE):

Annual Report

Quarterly Report

Public Ownership

Corporate Governance Report

List of Top 100 Stockholders

Record And Payment Dates For Dividend Declarations

Documentary Requirements For Mining Companies

Progress Reports For Fund Raising Activities

Supplemental Listing And Disclosure Requirements For Petroleum And Renewable Companies

Buyback Transactions

Result of Annual Stockholders Meeting

Clarification of News Article

Changes in shareholdings of officers/directors

Press Releases

Aside from the information inside the organization, the economy, industry and sector, and comparable peer companies must be evaluated as well in order to come up with a decision or recommendation. These include economic statistics, industry reports, trade publications, and databases containing information on competitors.

A financial analyst evaluates the past, current, and potential performance and financial position of a company to recommend or make an investment decision.

Examples of these decisions include the following:

■          Evaluating an equity investment for inclusion in a portfolio.

■          Evaluating a merger or acquisition candidate.

■          Evaluating a subsidiary or operating division of a parent company.

■          Deciding whether to make a venture capital or other private equity investment.

■          Determining the creditworthiness of a company in order to decide whether to extend a loan to the company and if so, what terms to offer.

■          Extending credit to a customer.

■          Examining compliance with debt covenants or other contractual arrangements.

■          Assigning a debt rating to a company or bond issue.

■          Valuing a security for making an investment recommendation to others.

■          Forecasting future net income and cash flow.

Managers within a company perform financial analysis to make operating, investing, and financing decisions but do not necessarily rely on analysis of related financial statements. They have access to additional financial information that can be reported in whatever format is most useful to their decision.

Source: CFA, PSE