Financial Statement Analysis
The ability to enhance the effectiveness of decision making within a firm through a careful review and evaluation of all its financial statements such as balance sheet, income statement, and a statement of cash flows etc. is referred to as financial statement analysis skills.
Financial statement analysis skills basically revolve around a thorough evaluation of risks, financial health, performance, and future prospects, providing useful insights that enable effective decision making. All financial data is recorded in the form of a firm’s financial statements but not everyone has the capability of interpreting that data. Therefore, financial statement analysis skills are considered one of the most significant talents required for any firm’s prosperity in the long run.
Why is financial statement analysis important
Firms prepare financial statements in order to meet their obligations as well as to get assistance in their strategic decision-making. However, without the ability to draw meaningful conclusions from these statements, their purpose is lost.
Financial statement analysis skills are, therefore, vital for firms to read, compare, and interpret the recorded financial data for determining the health and stability of a company. With the help of these skills you are able to dig deeper and look beyond the surface. By determining the strengths and weaknesses of the firm, financial statement analysis helps in providing an intuitive understanding of how efficiently resources are employed and business is conducted.
How to improve financial statement analysis skills
Financial statement analysis skills are a requirement of every small or big organization, hence, the growing efforts for improving them. Following are some things that must be kept in mind for improving your analytical journey:
- The story behind numbers. The numbers in the financial reports of a company always reflect some real world events. Keeping in mind or visualizing all such underlying realities of this financial data makes it a lot easier to comprehend it. Therefore, before get on with the number crunching, take out some time to thoroughly understand the industry in which the firm operates and how exactly the business is conducted.
- Financial reporting is diverse in nature. As a result of the various business activities having a diverse nature, diversity in the presentation of financial statements is inevitable. Although, cash flow and income statements are less susceptible, balance sheets are very likely to have items that fall outside the mainstream. Therefore, a one-size-fits-all approach is expected to make you go astray because there is no single mold for all financial statements.
- Ratios are better indicators than bare numbers. The reason financial statement analysis is given so much importance is that absolute numbers found in these statements are of least value until they are transformed into meaningful relationships. The resulting ratios are always better indicators of the performance of a company and must be observed over extended time periods to reflect trends. Any substantial changes in such trends may reveal information about significant financial changes in the company.