How to Analyze Financial Statements in 4 Simple Steps

How to analyze financial statements in 4 simple steps:

— Ali (@AliTheCFO) April 11, 2023

1/ Horizontal analysis

-> What is it?

Helps you compare changes over a period of time

You can examine trends for every line item

You can examine growth rates for every line item

— Ali (@AliTheCFO) April 11, 2023

-> Why is it important?

Helps you answer: Is this business growing?

Helps you assess the consistency of results

Allows you to compare growth rates for one company vs. its competition

— Ali (@AliTheCFO) April 11, 2023

-> How to use it:

Get a P&L from a few comparable past periods

This could be a previous month, quarter, year

Calculate the growth rate of a single metric over a period of time

— Ali (@AliTheCFO) April 11, 2023

Example:

Below is a vertical analysis of Apple’s annual revenue growth rate from 2017 to 2020 pic.twitter.com/Wg5vSKsO2E

— Ali (@AliTheCFO) April 11, 2023

2/ Vertical analysis

-> What is it:

Helps compare how individual line items on a P&L relate to others

You can determine efficiency

You can determine which expense items are the largest as a % of something else

— Ali (@AliTheCFO) April 11, 2023

-> Why is it important?

Helps you answer: what are the biggest expenses?

Where can I implement improvements that will be meaningful?

Calculate metrics for various measures of margin

— Ali (@AliTheCFO) April 11, 2023

-> How to use it:

Each line item is calculated as a percentage of a base figure

You can make comparisons of one company's margins or efficiency vs. its competitors

— Ali (@AliTheCFO) April 11, 2023

Example:

Below is a vertical analysis of Apple’s income statement with revenue as the base figure pic.twitter.com/O5cepKw2UN

— Ali (@AliTheCFO) April 11, 2023

3/ Comparable analysis

-> What is it:

Compare your vertical and horizontal analysis to the competition

Provides context to interpret results done in vertical and horizontal analysis

— Ali (@AliTheCFO) April 11, 2023

-> Why is it important?

Looking at results on a standalone basis is a bit meaningless

You don’t know how efficient you are unless you look at your competition

You can uncover areas of improvement vs. your competition

— Ali (@AliTheCFO) April 11, 2023

-> How to use it:

Complete horizontal and vertical analysis for competitors

Compare the ratios and growth rates for companies to determine which company is best in class

— Ali (@AliTheCFO) April 11, 2023

Example:

Here is a comparison's of Apple and Alphabet's Gross Margin pic.twitter.com/zkCvpCfJyh

— Ali (@AliTheCFO) April 11, 2023

4/ KPIs

-> What is it:

Key Performance Indicators

These metrics can be financial or operational in nature

They provide insights into a company’s performance

— Ali (@AliTheCFO) April 11, 2023

-> Why is it important?

Financial statements are great but they don’t tell the whole story

KPIs provide more insight into why a company is doing well or not

KPIs can sometimes be a leading indicator of future performance

— Ali (@AliTheCFO) April 11, 2023

-> How to use it:

You can either calculate KPIs yourself

You can use company-disclosed KPIs to make comparisons

Again, context matters. You need to compare KPIs between competitors

Looking at KPIs without context is not very useful

— Ali (@AliTheCFO) April 11, 2023

Example:

A comparison of ARPU for telecom companies pic.twitter.com/bxOgrQEeEF

— Ali (@AliTheCFO) April 11, 2023

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— Ali (@AliTheCFO) April 11, 2023