Basic methods of financial analysis: description, features and requirements

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

How can you assess the position of the enterprise? Only to analyze his cases on the basis of available data. This is the discipline of financial analysis. It allows you to carefully evaluate the available data and make your own verdict. The tools in this process are the methods of financial analysis. What are they? What goals are suitable for?

General information

Initially, let's deal with what constitutes a financial analysis of an enterprise. Methods and features need to be studied only after the definition of the term itself has been found. This will avoid confusion and ambiguity.

So, financial analysis is the process of studying the state and main results of an enterprise, which aims to identify reserves and ensure effective development in the future. Its results serve as the basis for making managerial decisions, developing a strategy and adequate work of a commercialstructures. Therefore, one should not underestimate the methods and techniques of financial analysis. A description of all existing problems and shortcomings allows you to quickly deal with them before they take on a menacing shape and size. What can help?

What are the main methods of financial analysis?

There are six of them:

1. Horizontal analysis. Assumes a comparison of reporting positions with the previous period.
2. Vertical analysis. Used to identify the proportion of specific articles within the final indicator, which is taken as 100%.
3. Trend analysis. It involves comparing all reporting positions with a number of previous periods. This allows you to determine the trend, that is, the main trend in the dynamics of indicators, which is cleared of individual characteristics and random influences of individual periods. Used to form and predict possible values in the future.
4. Analysis of the relativity of coefficients (indicators). Represents the calculation of ratios between specific financial statements. Used to determine the relationships of indicators.
5. Spatial (comparative) analysis. Used to study the performance of subsidiaries or large divisions, as well as competitors or the industry average.
6. Factor analysis. Designed to determine the degree of influence of individual causes on the result. Can be direct or reverse. In the first case, the result is divided into component partsand study them. In the second case, individual elements are connected until they get the existing result.

Of course, it is rather problematic to understand what the methods of analyzing the financial condition of an enterprise are based on a short brief description. Therefore, let's look at an example of their use.

What and how is most often used in the enterprise?

Let's say we have a commercial structure that needs to be researched. What methods of financial analysis of the enterprise to choose for specific situations? Here is a short list:

1. Vertical analysis. Due to its implementation mechanism, it is often also called structural. It can be carried out in the case when it is necessary to determine the structure of the final financial indicators and to identify how much they affect the final result of economic activity. For a better understanding of the situation, the amounts for individual items can be presented as a percentage. This approach makes it possible to successfully organize a comparison of economic potential, evaluate the results of activities in the presence of different amounts of resources used, and smooth out the negative impact of inflation, which distorts the absolute reporting figures.
2. Horizontal analysis. Due to its implementation mechanism, it is often also called dynamic. It is based on the study of changes in individual financial indicators over a certain time period. Usually carried out after vertical analysis. Horizontalallows you to determine which articles and sections have been fixed changes. It is important to study various ratios that are based on different absolute indicators of financial activity. For this, financial statements are used. At the same time, whole groups of indicators are distinguished that provide information about certain points. What is the most common? These are indicators: liquidity, profitability, solvency and financial stability, market activity, turnover (business activity). In this case, it is necessary to take into account a number of specific points. First of all, the fact that financial ratios are significantly affected by the accounting policy pursued by the enterprise. Secondly, the diversification of activities significantly complicates the analysis by industry, because the normative values in these cases can vary significantly. And thirdly, it must be taken into account that the coefficients chosen as a base may not be optimal and may not correspond to the tasks set.

What else?

Perhaps, due to their popularity, some more methods of analyzing the financial activity of an enterprise deserve attention. This is:

1. Comparative analysis. It allows you to compare the values of individual groups that are similar in nature to each other. What is meant in this case? As separate groups, it is possible to single out indicators of the enterprise and competitors, individual divisions and structural units, industry average, reporting and planned.
2. Factor analysis. Due to its implementation mechanism, it is oftencalled integral. Used to obtain the most complete and detailed assessment of the financial condition of the enterprise.

Other methods of analysis are not so popular. Although they are used in certain cases. The only question is what are the goals. After all, speaking in general terms, it is necessary to obtain a certain number of key parameters that will provide accurate and objective information about the financial condition. In this regard, profits and losses, changes in liabilities and assets, settlements with creditors and debtors are of interest.

About objects, subjects and methodology

Financial analysis is used to determine the position of economic enterprises over a certain period of time, as well as to predict the near and long term. It also allows you to comprehensively assess the state of the research object, identify the factors and causes that led to the achieved state, prepare and justify recommended management decisions, identify and mobilize reserves to improve performance. So what are we working with? First of all, we need to talk about objects. Their role is played by financial statements, which must be reliable, open, understandable, meaningful, useful, complete, consistent, comparable, prudent and neutral. Of course, it covers the events that took place in the past. But their data is needed to make plans, as well as forecasts for the future.

By studying this information, it is possible to establish the presencecertain shortcomings in the enterprise or certain areas of its activity, as well as to identify reserves for improving the process of managing commercial, financial and production operations. The subjects in this case are two groups of users that are interested in the work of the structure. The first includes owners, management, tax authorities, lenders, customers and suppliers, who interpret it depending on their interests. The second group consists of lawyers, auditors, consultants, exchanges, trade unions, associations and the press. They protect the representatives of the first.

What about the methodology? It includes three interrelated blocks: analysis of financial results, the state and efficiency of the economic activity of the enterprise. You can consider them separately, but the probability of forming incorrect conclusions increases significantly.

About datasets

Methods of analyzing financial and economic activity have no price if there is nothing to use them for. Where, how and what data is obtained for this? Conventionally, in this case, three groups can be distinguished:

1. Statistical. This includes the results of observation, relative and absolute indicators (they are also coefficients), time series, calculations of average values, summary and grouping of data according to some criteria, comparisons, detailing, graphical methods, indices.
2. Accounting. This is the method of double entry, balance sheet and so on. Everything that the company's accounting service does.
3. Economic and mathematical. This is perhaps the most difficult moment, which, nevertheless, can show excellent results. This includes elementary mathematics, analysis, statistics, economics, programming, operations research, depreciation, game theory and scheduling, and much more.

It just so happens that certain factors need to be taken into account, because they determine how effectively the available data sets will be used. What exactly are we talking about? These are planning methods, and various accounting methods, and reliable accounting information, the static nature of the coefficients used, as well as the diversification of the enterprise's activities. Despite their apparent simplicity, the methods of financial analysis of activities have many small moments and nuances that can radically turn the picture and show (or hide) extremely important information. Therefore, professionals need to be very careful. After all, although there are not many of them, the information prepared by them has an impact on management decisions, which is reflected in the future of the entire enterprise.

About research and study

The content and features of the goals, subjects, tasks and requirements have a significant impact on the methods of analyzing the financial condition of an enterprise. It is a comprehensive and systematic study, which is based on an objective assessment. At the same time, it is necessary to constantly look for ways to increase efficiency by mobilizing reserves. It is also necessary to use to the maximum all available financial resources and takeoptimal solutions for their management. After all, it makes no sense to create and form a system of indicators that allows you to characterize the activities of a commercial structure if no one from the management is interested in this. Properly chosen methods of analyzing financial results will allow you to make the best decisions and stay on the market or even expand your activities. Of course, everything basically depends on the positions taken by the management, but well-studied and researched data, with the given argumentation, can make it possible to correct (if necessary) their behavior and protect them from possible errors. It should be understood that financial analysts and other similar professionals act as advisors.

In general, there are a large number of factors that can be problematic to describe using formulas, and they must be taken into account by the top management. For example, it can be personal relationships between directors of different enterprises, agreements with government officials, and so on. It is impossible not to take this into account. Whereas displaying them in the form of formulas and calculations is quite problematic. But this is not necessary (though only for support services). After all, the main goal is to study large amounts of data in order to prepare the basis for making the right and adequate decisions.

About informal methods

So far, the focus has been on rigid analytical relationships and dependencies, mathematical apparatus and accurate counting. It should be noted that this is notall available tools. There are still non-formalized methods for analyzing financial indicators. An example is the construction of systems of indicators (psychological, morphological, comparative) or analytical tables, expert scenarios and assessments. As you can see, they do not focus on numbers and accuracy of counting, but on the "human factor". Of course, this does not mean that mathematics can be safely discarded and not used. These methods have rather limited applicability. Take, for example, the method of expert assessments. If you give them a summary of the situation of the enterprise, it will be difficult to achieve approximately the same conclusions on their part. And this leads to high risks in making decisions that decide his fate.

At the same time, their recommendations can be useful when developing a certain product, when you need to find out whether a certain product will be useful and in demand on the market. But, alas, even the experts are wrong. Non-formalized methods of financial and economic analysis carry significant risks, and the data obtained with their help is mostly used as advisory. This should always be considered.

One more example can be considered. Take the polls that are conducted to find out if people are middle class. As practice has shown, many believe that they belong to this group of society. Although, in fact, if we use the indicators offered by international financial structures, then in the percentage display there is a difference that is severalonce! So it is not recommended to use them as a hard base.

About modeling

Methods of analyzing financial statements involve the use of significant tools to obtain the highest quality data. One of them is model building. They allow you to identify and structure the links between the main indicators. There are three main types:

1. Descriptive models. They are descriptive. Basically, they are used to assess the financial condition of a commercial structure. These include the system of reporting balances, the creation of analytical sections, the study of relative indicators, and a number of others. All of them are based on accounting data.
2. Predicate models. They are predictive. Used to find out what level of income and expenses can be expected. Assess financial condition. The most famous are the calculation of the point of critical sales volume and situational analysis models. Require rather complex calculations.
3. Regulatory models. Allows you to compare actual results with planned ones. Used for internal financial analysis in order to detect deviations in performance or to look for erroneous assumptions in previously made conclusions.

Models should be widely used, because they allow you to predict the result and avoid possible errors.

Conclusion

Here they werethe methods of analysis of financial stability, efficiency and capacity of the enterprise are considered. Of course, this topic is too broad to fit into a single article. It would be necessary to mention and consider the mathematical formulas used in certain cases, the process of building mathematical models and much more, which allows a more detailed understanding of financial analysis. But this requires not the size of the article, but the whole book. Which, alas, is not possible. Although the information provided is enough to get acquainted.

And then everyone makes their own decisions about which direction they need to move and what to study next. You can focus on models. In this case, economic cybernetics is suitable, since it is this science that specializes in them. If there is a need to understand the basic formulas, then this should be entrusted to econometrics. Of course, it will be problematic to master all this at once, but, as they say, perseverance and work will grind everything. You should not give up and give up, you need to act and work, then everything will be fine.