CU-SEM-VI-Financial Analysis and Business Valuation

Emerging issues and strengths can be identified through the monitoring of key performance indicators for businesses, such as profit margins, inventory turnover, and return on equity. For instance, increased earnings per share (EPS) could be a result of lowering cost of goods sold (COGS) or consistently increasing sales. Coverage ratios, such as the cash flow-to-debt ratio and the interest coverage ratio, can show how effectively and whether or not a company is expanding or lowering its ability to service its debt through adequate liquidity. Comparing growth rates and profitability across many businesses operating in the same industry is also made simpler with the use of horizontal analysis. The comparability and consistency of financial accounts serve as the foundation for generally accepted accounting standards (GAAP). It is possible to accurately analyse a company's financial records across time by adhering to standard accounting principles like GAAP. Comparability refers to the capability of comparing the financial statements of two or more different businesses. II Vertical Analysis Vertical analysis is a technique for analysing financial statements when each line item is listed as a percentage of a base amount. Line items on a balance sheet can be expressed as a percentage of total assets or liabilities, while those on an income statement can be expressed as a percentage of gross sales. Vertical analysis of a cash flow statement also displays each cash inflow or outflow as a percentage of the total cash inflows. In order to facilitate useful decision-making, the financial statements are analysed vertically, where each line item is listed as a percentage of another item. Here, each line item on the income statement and balance sheet is expressed as a percentage of sales revenue and as a percentage of total assets, respectively. Continuing from the above example, The comparison between the two ratios indicates that despite the rise in both revenue and cost of sales, the gross profit has changed only marginally. According to accounting rules, financial statements should be written in a typical vertical style. The primary use of vertical analysis is the computation of financial ratios, which serve as important performance indicators for businesses. Once the ratios are generated, it is simple to compare them to ratios in other companies of a comparable size for benchmarking purposes. 51 CU IDOL SELF LEARNING MATERIAL (SLM)

Table No 2.4 Revenue 52 CU IDOL SELF LEARNING MATERIAL (SLM)

Summary: Horizontal vs. Vertical Analysis The method used to extract financial information from statements for decision-making is the main distinction between horizontal and vertical analysis. By using a line-by-line approach, horizontal analysis examines financial information throughout time. Comparing ratios computed using financial data is the main subject of vertical analysis. The same financial documents are used in both of these ways, and both are crucial for making well-informed decisions that will have an impact on the business. 2.6 INTER FIRM VS. INTRA FIRM ANALYSIS I. Inter firm comparison Meaning of Inter firm comparison A comparison of two or more business units within the same company with the aim of determining the competitive position to increase the profitability and productivity of those business units is known as a \"inter firm comparison.\" Inter firm comparison is a tool used by business management to assess how well a company is performing operationally and financially in comparison to other businesses operating in a related sector. Definition of Inter-firm Comparison Inter-firm Comparison is concerned with the industrial firm, its success, and the role played by the management in obtaining it, according to the Centre for Inter-firm Comparison, created by the British Institute of Management. The result of an appropriately done inter-firm comparison is not a statistics survey but rather a moment of clarity for the meaning director of the company that participated in the activity. The outcomes give him a quick and clear image of how his company compares to other businesses in his field in terms of profitability, costs, stock turnover, and other critical elements determining a business' success. The way the inter-firm comparison results are presented to him enables him to see clearly where his company is stronger or weaker than its rivals, what weaknesses require his personal attention, what opportunities there are for addressing those weaknesses or enhancing the firm's strengths he should investigate, and in what ways the general objectives and specific targets of the firms should be modified. 2. Intra firm comparison 53 CU IDOL SELF LEARNING MATERIAL (SLM)

Meaning of Intra-firm comparison Comparing two or more departments or divisions of the same business unit allows for meaningful analysis with the goal of enhancing operational effectiveness across the board. This is referred to as an intra-firm comparison. The goals of an intra-firm comparison and an inter-firm comparison are the same. Comparisons could be made based on operating results, financial status, or both. Definition of Intra firm comparison Comparing internal to a company implies doing so between its many departments, lines of business, and strategic business units (SBUs). Only when all units and SBUs adopt uniform costing methodologies and practises is this comparison conceivable. The management can identify the units/Strategic SBUs that haven't been performing up to internal benchmarks or criteria set by other units SBUs by using intra-firm comparison. When a company deals in distinct products or industries, and their working circumstances differ noticeably, it might be challenging to compare the two. Need for Inter-firm & Intra-firm comparison Competitive strength is the foundation for each company unit's existence and expansion. The company's financial standing and stability serve as the foundation for its competitive power. To determine the financial situation and solvency, some ratios are computed. Knowing the strengths and weaknesses of other business units that are similar to its own can help a business unit succeed in the market. A cross-firm comparison is necessary in this case. A corporate unit might also assess the strengths of its many departments and divisions before going up against other entities of a same nature. A comparison inside the company is necessary in this situation. Inter firm & Intra firm Comparison | Advantages | Disadvantages Benefits or Advantages of Inter Firm or Intra Firm comparison Inter firm comparison has brings same benefits to every business unit. They are presented below: 54 CU IDOL SELF LEARNING MATERIAL (SLM)

1. The management can focus extra attention on the business's weakest area to take appropriate action. 2. Uniform information is available to all participating companies of inter firm comparison. 3. An analyst can analyse the outcomes of an inter-firm comparison with expert knowledge and expertise. Every organisation so receives really useful information. 4. The results are only obtained using accurate information that the analyst has gathered. Disadvantages or Limitation of Inter Firm or Intra Firm comparison The followings are some of the limitations of the inter-firm or intra firm comparison. 1. The cooperation of participating companies or departments is wholly responsible for the success of inter-firm comparison or intra-firm comparison. The level of cooperation affects how successful an endeavour is. 2. Some accounting information is private by nature. The analyst lacks access to such data for accurate inter-firm comparison. If so, there is no value to be had from comparing different firms. 3. Improper use of ratios can produce false findings. 4. If the companies are not the same size and type, fruitful outcomes cannot be produced. 5. When different types of company organisation are compared, interfirm comparison is useless. 6. Participating organisations' accounting practises and rules might not be consistent, which could cause the accounting ratios utilised for comparison to produce inaccurate results. 7. Each ratio has restrictions of its own. These also apply to comparisons between firms. 2.8 EXAMPLES The following figure is an example of how to prepare a horizontal analysis for two years. For useful trend analysis, you need to use more years (most investors use five), but this example gives you all the info you need to prepare a horizontal analysis for an unlimited number of years. 55 CU IDOL SELF LEARNING MATERIAL (SLM)

Table No 2.5 Horizontal Analysis Vertical analysis restates each amount in the income statement as a percentage of sales. This analysis gives the company a heads up if cost of goods sold or any other expense appears to be too high when compared to sales. Reviewing these comparisons allows management and accounting staff at the company to isolate the reasons and take action to fix the problem(s). The following figure is an example of how to prepare a vertical analysis for two years. As with the horizontal analysis, you need to use more years for any meaningful trend analysis. This figure compares the difference in accounts from 2014 to 2015, showing each account as a percentage of sales for each year listed. Table No 2.6 Percentage Of Sales 56 CU IDOL SELF LEARNING MATERIAL (SLM)

2.7 SUMMARY  A comparison of two or more business units within the same company with the aim of determining the competitive position to increase the profitability and productivity of those business units is known as a \"inter firm comparison.\"  Comparing two or more departments or divisions of the same business unit allows for meaningful analysis with the goal of enhancing operational effectiveness across the board. This is referred to as an intra-firm comparison  The management of the business conducts this thorough and comprehensive sort of analysis to ascertain the organization's financial status and operational effectiveness.  Analysis is another name for horizontal analysis. It is also referred to as time series analysis because it involves reviewing and analysing financial statements for a number of years  Vertical Analysis, also referred to as Static Analysis Only one year's worth of financial statements are reviewed and analysed. It is helpful for comparing the results of many businesses of the same type, or divisions or departments within one company.  If the analysis is a time series, once the complex data has been classified, comparable data from the same company's earlier eras must be gathered. If the analysis is cross-sectional, it is required to get comparative information from businesses that are equivalent or similar and that have the same accounting period. 2.8 KEYWORDS  Analysis: Financial parameters including profitability, solvency, and liquidity are used to analyse the comparative financial data.  Cross Sectional Analysis : Cross-sectional analysis is a type of analysis where an investor, analyst or portfolio manager compares a particular company to its industry peers.  Gross profit: Gross profit is the profit a business makes after subtracting all the costs that are related to manufacturing and selling its products or services  Cost of sales: Cost of sales, also referred to as the cost of goods sold (COGS), represents the direct costs related to the manufacturing of goods/services 57 CU IDOL SELF LEARNING MATERIAL (SLM)

that are sold to your customers. Cost of sales doesn't include selling, general, and administrative (SG&A) expenses.  Earning per share: Earnings per share (EPS) is a company's net profit divided by the number of common shares it has outstanding. EPS indicates how much money a company makes for each share of its stock and is a widely used metric for estimating corporate value 2.9 LEARNING ACTIVITY 1. Define financial statements _____________________________________________________________________ ______ ___________________________________________________________________________ 2. State the types of financial statements ___________________________________________________________________________ ___________________________________________________________ ________________ 3. Explain Horizontal and vertical analysis. ___________________________________________________________________________ ___________________________________________________________________________ 4. Explain Inter firm and Intra firm comparison. ___________________________________________________________________________ ___________________________________________________________________________ 2.10 UNIT END QUESTIONS A. Descriptive Questions Short Questions: 1. Write about parties involved in financial analysis. 2. Describe process involved in financial analysis. 3. What is the difference between horizontal and vertical analysis. Long Questions: 1. Explain with advantages and disadvantages about Inter firm and Intra firm comparison. 58 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Write a note on Horizontal and Vertical analysis. 3. Limitations of financial analysis. B. Multiple Choice Questions 1. ___________are the end result of the accounting cycle and provide reliable, timely, and relevant financial information for making informed economic decisions. a. Financial statements b. Profit and loss account c. Financial System d. Financial result 2. A company's main goal is to make _____________ a. Goodwill b. Money c. Products d. Reputation 3. A _____________needs to be well-versed in the various analytical tools in order to make wise judgments for the company. a. Financial Manager b. CEO c. HR Manager d. Purchase officer 4. _____________can identify trends and growth patterns by using horizontal analysis to understand what has been influencing a company's financial performance over a number of years. a. Investors and Analysts b. Investors and Bankers c. Investors and Companies 59 CU IDOL SELF LEARNING MATERIAL (SLM)

d. All of the above 5. A comparison of two or more business units within the same company with the aim of determining the competitive position to increase the profitability and productivity of those business units is known as a __________ a) Intra firm comparison b) Inter firm comparison c) Internal comparison d) External comparison Answers 1-a, 2-b, 3-a, 4-a, 5-b 2.11 REFERENCES References book References book  Financial Statement Analysis - Martin Fridson. ...  International Financial Statement Analysis - Thomas Robinson. ...  The Finance Book - Stuart Warner & Si Hussain. ...  Financial Statements: Step by Step - Thomas Ittelson. Website  https://www.investopedia.com/terms/f/financial-analysis.asp  https://corporatefinanceinstitute.com/resources/knowledge/finance/types-of-financial- analysis/  https://en.wikipedia.org/wiki/Financial_analysis 60 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 3ANALYSIS OF FINANCIAL STATEMENT II STRUCTURE 3.0 Learning Objectives 3.1 Introduction 3.2 Purpose & Objectives of Financial Analysis 3.3 Nature and characteristics of Financial Statements 3.4 Preparation of Financial Statements 3.5 Analysis of Financial Statements 3.6 comparative financial statements forma 3.7 Summary 3.8 Keywords 3.9 Learning Activity 3.10 Practical problems 3.11 Unit End Questions 3.12 References 3.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Define financial statement analysis.  Define purpose of financial analysis.  Format of comparative income statement  Format of comparative balance sheet  Prepare financial statement 3.1 INTRODUCTION You have learned about the income statement and balance sheet of firms' financial statements. These are essentially condensed financial reports that give an overview of a company's operating performance and financial status. The specific information provided can 61 CU IDOL SELF LEARNING MATERIAL (SLM)

be used to evaluate a company's operational effectiveness and financial stability. This necessitates accurate information analysis and interpretation, for which a variety of methodologies (tools) have been created by financial specialists. Financial statements are the end result of the accounting cycle and provide reliable, timely, and relevant financial information for making informed economic decisions. A company's main goal is to make money. It is a matter that every company must take seriously. The difference between an organization's total revenues and its total expenses for a certain time period is its profit. The owner is also curious about their financial standing. The process of creating a trading, profit and loss, and balance sheet is referred to as \"final accounts preparation.\" Meaning and Definition: Financial statement analysis is the act of evaluating the financial data present in the financial statements critically in order to comprehend and make judgments regarding the firm's operations. It consists primarily of an analysis of the relationships between various financial facts and figures as presented in a set of financial statements, as well as their interpretation in order to gain knowledge of the firm's profitability and operational effectiveness and to evaluate the firm's financial condition and future prospects Financial analysis is a broad word that encompasses both analysis and interpretation. The term \"analysis\" refers to the methodical classification of financial data that is used to simplify it for the financial statements. Interpretation entails describing the importance and meaning of the facts. These two complement one another well. Analyses are pointless , difficult or impossible without interpretation, while interpretation is impossible without analysis. Understanding Analysis and Interpretation It is essential to comprehending the significance of Analysis of financial statements cannot be done in isolation because they complement one another without any interpretation.  Financial Analysis: It focuses on the right classification of given data to simplify financial data in the monetary statement.  Interpretation: It focuses on elucidating the relevance and meaning of the financial data. Definition of Financial Statement Analysis 62 CU IDOL SELF LEARNING MATERIAL (SLM)

 As per Myer: Financial Statement Analysis is largely a study of relationships among the various financial factors in a business, as disclosed by a single set of statements, and a study of trends of these factors, as shown in a series of statements.  The financial statements provide a summary of the accounts of a business enterprise , the balance sheet reflecting the assets , liabilities and capital as on a certain data and the income statements showing the results of operations during a certain period ―. (John N. Meyer 2009).  The end product of financial accounting is a set of financial statements prepared by the accountant of a business enterprise that purport to reveal the financial position of the enterprise the result of its recent activities, and an analysis of what has been done with earnings''. (Smith and Ashburn 2017). 3.2 PURPOSE AND OBJECTIVES OF FINANCIAL ANALYSIS Financial statements serve many different impacted groups with an economic stake in the operations of the business organisation, making them very helpful. Analyze the function that the financial statement provided. a) The ƅasic purpose of financial statement is communicating the fundamental purpose of financial statements to their interested users and providing quantitative and subjective information that is useful in making economic decisions. b) Secondly, financial statements are intended to meet the specialized needs of conscious creditors and investors.. c)Thirdly, financial statements are created to give accurate information about a business's earnings and its ability to continue operating profitably in the future. The users who are interested in this information are mainly the \\sinvestors, creditors, suppliers and employees. d) The fourth purpose of financial statements is to serve as the basis for tax assessments. e) Fifthly, financial statements are prepared in a way that gives information that can be used to forecast the company's future earnings potential. f)The preparation of financial accounts is done in order to give accurate information about changes in economic resources. g) Financial statements are prepared to give information on changes in the organization's net resources as a result of profit-oriented activities. Financial statements thereby meet the 63 CU IDOL SELF LEARNING MATERIAL (SLM)

information needs of a large cross-section of society, including company managers, executives, investors, lenders, shareholders, consumers, and governmental institutions. 3.3 NATURE AND CHARACTERISTICS OF FINANCIAL STATEMENTS Nature of financial statements Financial statements are straightforward declarations based on previously documented facts and data. They are unwavering in their opinions, character, and sincerity. They are an intelligent blending of recorded data, accounting concepts, and notions, customs, individual opinions, and occasionally estimates. As a result, three factors—recorded facts, accounting principles, and individual judgments—have an impact on financial statements. a) By \"recorded facts,\" we mean information from statements that has already been entered into accounting records. Example: Cash on hand and in the bank, cost of fixed assets, sums owed to customers and suppliers, and amounts due from customers.Every recorded fact is represented numerically in goods. b) Financial statements are created by following established ideas and conventions. c) Personal judgments, estimates, and views should be highlighted when two or more alternative processes are available and are equally acceptable. This is in accordance with the recorded facts and accounting ideas and norms. As an illustration, different methods of depreciation and valuation can be used for assets and inventory, respectively. Personal judgement and opinion are crucial in these situations when determining which method is more in line with the accounting rules and ideas in a certain situation or instance. Characteristics of financial statements: Financial statements are thought of as indicators of the performance and standing of an organisation. As a result, extra caution and care should be taken when crafting these comments. The following operational features are typically reflected in financial statements: 1. Internal Audience: Those with an interest in a particular business company are the target audience for financial statements. They must be written under the premise that the reader is familiar with business processes in general, as well as the definition and implications of the terms used in that business. 2. Articulation: Because the fundamental financial statements are connected, they are considered to be \"articulated.\" An illustration of a profit and loss account is given below. It 64 CU IDOL SELF LEARNING MATERIAL (SLM)

depicts an increase or decrease in resources, which is reflected in the various balances in the balance sheet. 3. Historical nature: Financial statements typically give information about past events. They are not meant to provide projections of future economic activity and how it will affect income and equity, despite the fact that they are increasingly employed as the starting point for prospective investors and creditors. 4. Financial statements include information from both the fields of law and economics. Although many of the concepts and conventions are conceptually oriented towards economics, many of them have their roots in law. 5. Technical Terminology: Financial statements utilise technical terminology since they are the end result of a technical accounting process. The users of these statements should, therefore, be conversant with the many terminology utilised therein as well as their interpretations and meanings. 6. Summarization and Classification: The volume of business transactions affecting business operations is so large that the reader will be able to make useful inferences simply by summarising and classifying business occurrences and things. 7. Monetary Terms: All business transactions are measured, quantified, and connected in terms of money. Financial statements will have no sense without this monetary unit of measurement. 8. Diverse Valuation Methods: Not every item on a balance sheet is valued using the same methodology. Cash is reported at current exchange rate; receivables are reported at net realisable value; inventories are reported at cost or market value, whichever is lower; and fixed assets are reported at cost less depreciation. 9. Accrual Basis: Rather than using a cash basis, most financial statements are prepared using an accrual basis, which accounts for all income that is due but has not yet been received and all expenses that are due but have not yet been paid. 10. The need for estimates and judgement: The facts and figures that must be provided in financial statements must frequently be based on estimates, subjective judgments, and human opinions. Examples of situations where estimates and individual judgments are necessary include the rate of depreciation, the usable economic life of a fixed asset, and the provision for consequential losses. 65 CU IDOL SELF LEARNING MATERIAL (SLM)

11. Verifiability: In order to increase the reliability of financial statements, it is crucial that the facts they include are susceptible to objective verification. 12. Conservatism: To eliminate the possibility of overstating assets and revenues, whenever and whenever estimates and personal judgments are necessary during the compilation of financial statements, such estimations should be somewhat focused on a conservative stance. 3.4 PREPARATION OF FINANCIAL STATEMENTS 1. Financial Statements Revenue Account and Balance Sheet are two components of financial statements. Profit and Loss Account, Income and Expenditure Account, or simply Income Statement are all examples of revenue accounts. Revenue Account is prepared for a period, encompassing one year, and may be divided into \"Manufacturing Account,\" \"Trading Account,\" \"Profit and Loss Account,\" and \"Profit and Loss Appropriation Account.\" 2.Objects of preparing Revenue Accounts To determine the overall \"Cost of Goods Manufactured\" for the time period, Manufacturing Account is ready. Additionally, it will provide the price of materials used, labour expenditures, and other manufacturing expenses or prices. A trading account is set up to determine the trading outcome, or the gross profit or loss realised from the selling of products. To determine the net profit or net loss from the regular business operations for the year under review, a profit and loss account covering the same time is created. In order to calculate the net profit or loss, a profit and loss appropriation account is created where all other expenses and appropriations are included. Typically, this includes charges for past years, interest charges, or wages due to the proprietor or partners. The aforementioned accounts are prepared by sole proprietorship businesses, partnership businesses, and corporations. When preparing a revenue account, or profit and loss account, for a company, it is important to keep in mind that Schedule VI, Part II of the Companies Act, only pertains to profit and loss accounts. 3. Manufacturing Account Manufacturing and trading accounts may be prepared independently by a manufacturing company. Small manufacturing companies, however, may only construct one combined account called as a Manufacturing and Trading Account. A Manufacturing Account only deals with all manufacturing-related expenditures and expenses, which is how it differs from 66 CU IDOL SELF LEARNING MATERIAL (SLM)

a Trading Account. Trading Account only deals with finished goods and the costs associated with them that reflect the cost of production. Products that are ready for sale are referred to as finished goods. These products may be produced internally at the company or imported. The Manufacturing Account transfers the cost of made goods to the Trading Account. As was previously indicated, the Manufacturing Account is prepared to determine the cost of goods manufactured. Therefore, all costs associated with making goods, including the purchase of raw materials, transportation costs, freight, and other costs incurred to turn raw materials into finished items, should be included. The components of cost are listed under several headings, such as prime cost, manufacturing cost, etc., to provide a clear understanding. Production or Manufacturing A/C is prepared to outline the various cost components involved in producing the finished items. 4. Balance Sheet The entire Balance Sheet cannot be defined, except in general terms.The American Institute of Certified Public Accountants' definition of a balance sheet is as follows: The balances in the asset, liabilities, and net worth accounts are listed on the balance sheet. Although accurate, this definition is meaningless.A balance sheet is a description of an enterprise's financial status as of a specific date that shows its assets, liabilities, capital, reserves, and other account balances at their respective book values, according to the Accounting Standards Board of India. It serves as a record of an organization's financial standing by listing the assets and liabilities as of a given date. Assets are the things that the firm possesses, while Liabilities are the varying amounts of money that it owes (including that of the owners). The phrase \"balance sheet\" refers to the requirement that all assets and liabilities be equal in order for there to be a balance. The assets side demonstrates how the money for the assets is used in the business, while the liabilities side illustrates the numerous sources from which it was made accessible. All nominal accounts from the trial Balance are closed by transferring them to the Trading and Profit and Loss Account as final accounts are being prepared. Personal or real accounts will hold the balances of the remaining accounts that have not been moved to revenue accounts. A balance sheet is a list of each of these balances. Therefore, the balance sheet is properly referred to as a sheet of balances. As we have already seen, a balance sheet gets its name from the fact that its two components—assets and liabilities—must always balance. This can be expressed in the form of an equation. Assets = Liabilities + Net Capital A = L + NC (Capital + Reserves – Fictitious Assets). The entire balance sheet rests on the 67 CU IDOL SELF LEARNING MATERIAL (SLM)

above equation. Thus, the above equation is called the Balance Sheet Equation or Accounting Equations. 3.5 ANALYSIS OF FINANCIAL STATEMENTS Financial statement analysis is the act of correctly establishing the relationship between the items on the balance sheet and the profit and loss account in order to discover the firm's financial strengths and weaknesses. Financial statements are analysed using a variety of methods or techniques, including comparative statements, a schedule of working capital movements, common size percentages, funds analysis, trend analysis, and ratios analysis. Financial statements are prepared for decision-making as well as to satisfy external reporting requirements. They significantly influence how managerial decisions are made. Limitation of Financial Statement: Following are the limitations of financial statements: 1. Because the data is past, it does not predict the future. 2. It is the result of accounting principles, custom, and individual judgement. 3. The status is described in terms of money in the statement. Things that cannot be represented in or recorded in monetary terms are not within the ambit of the profit or loss situation. Since no significant inferences can be made from the financial accounts alone, the information presented in them is not a goal in and of itself. However, via research and interpretation of the financial accounts, decision-making can greatly benefit from the data presented. Analysis of the financial accounts is required to get around the constraints. The standard analytical resources at an analyst's disposal for this purpose are: 1. Comparative financial and operating Statements 2. Common-size statement 3. Trend ration and trend analysis 4. Average Analysis 5. Change in working capital 6. Fund-flow and cost-flow analysis 68 CU IDOL SELF LEARNING MATERIAL (SLM)

7. Ratio analysis 1. Comparative Financial and Operating Statement: Comparative financial statements are financial snapshots of a company's status that are intended to put various elements of that position in historical context. The balance sheet and income statement, or profit and loss account, are prepared in a comparative manner as the effects of business operations are brought to bear on the balance sheet ------- 1. Absolute date (money values or rupee amount). 2. Increases and decreases in absolute data in term of money values. 3. Increases or decreases in absolute data in term of percentage. 4. Comparisons expressed in ration. 5. Percentage of total. 2. Common size Statement: Common size statements are comparative statements that only provide the vertical percentage or ratio for financial data without providing the rupee value. Under the Companies Act, it is simple to compare a concern's two years' worth of financial data. Companies are required to include the corresponding numbers from the prior year in both their profit and loss statement and balance sheet. However, sometimes the numbers represent nothing since the heads of the goods are regrouped and no longer comparable; they should precisely have some significance from year to year. It is preferable to calculate the percentage ratio of the sales of various items and include this information in the statement. . Since standard size statements are the most useful in marketing comparisons between businesses in a particular industry. A declaration of common size illustrates how each component relates to the overall. It is helpful in the comparison of two commercial organisations at a specific time and in vertical financial analysis. 3.6 COMPARATIVE FINANCIAL STATEMENTS What are Comparative statements? Comparative statements, also known as comparative financial statements, are snapshots of a company's financial health at various points in time. By comparing the financial information 69 CU IDOL SELF LEARNING MATERIAL (SLM)

from two or more accounting periods, these statements assist in determining the profitability of the company. The term \"horizontal analysis\" refers to the updating of data from two or more areas side by side. Such a study has the advantage of assisting investors in determining market trends, monitoring a company's development, and comparing it to that of its rivals. Only when the same set of accounting standards are being utilised to prepare the accounts will the financial facts be considered comparable. Types of Comparative Statements There are two types of comparative statements which are as follows 1. Comparative income statement 2. Comparative balance sheet Comparative Income Statement Income statements include information about a company's operations' outcomes, and comparative income statements show the company's growth over a number of years. Additionally, this statement aids in determining how each line item on the income statement varies over time. The comparative income statement aids in comparing the company's performance with that of its rivals over various time periods in addition to demonstrating the operational effectiveness of the company. By contrasting operational data from various accounting periods, this is achievable. The following points should be studied when analysing a comparative income statement 1. Compare the increase or decrease in sales with a relative increase in the cost of goods sold 2. Studying the operational profits of the business 3. Overall profitability of the business can be analysed by an increase or decrease in the net profit Steps in preparing a comparative income statement: The below steps are followed 1. Specify absolute figures of all the items related to the accounting period under consideration. 70 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Determine the absolute change that has occurred in the items of the income statement. It can be achieved by finding the difference between previous year values with the current year values. 3. Calculate the percentage change in the items present in the current statement with respect to previous year statements. Fig 3.1The format of a comparative income statement is as follows: 71 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 3.1 Comparative Balance Sheet A comparative balance statement examines the company's assets and liabilities for the current year and contrasts any growth or decline in both relative and absolute terms. In addition to showing the position of assets and liabilities throughout various time periods, a comparative balance sheet also shows changes that have occurred in specific assets and liabilities over various accounting periods. The following points should be studied when analysing a comparative balance sheet 1. The present financial and liquidity position (study working capital) 2. The financial position of the business in the long term 3. The profitability of the business Steps in preparing comparative Balance Sheet The below steps can be followed 1. Determine the absolute value of assets and liabilities related to the accounting periods. 72 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Determine absolute changes in the items of the balance sheet relative to the accounting periods in question. 3. Calculate the percentage change in assets and liabilities by comparing current year values with values of previous accounting periods. The format of a comparative balance sheet is as follows: Table 3.2 Balance Sheet 73 CU IDOL SELF LEARNING MATERIAL (SLM)

Format of Comparative statement Table 3.3 Format of Comparative statement 3.7 SUMMARY  A comparative balance statement examines the company's assets and liabilities for the current year and contrasts any growth or decline in both relative and absolute terms.  Income statements include information about a company's operations' outcomes, and comparative income statements show the company's growth over a number of years.  Common size statements are comparative statements that only provide the vertical percentage or ratio for financial data without providing the rupee value.  Comparative financial statements are financial snapshots of a company's status that are intended to put various elements of that position in historical context.  Revenue Account and Balance Sheet are two components of financial statements. Profit and Loss Account, Income and Expenditure Account, or simply Income Statement are all examples of revenue accounts. 74 CU IDOL SELF LEARNING MATERIAL (SLM)

 Manufacturing and trading accounts may be prepared independently by a manufacturing company. Small manufacturing companies, however, may only construct one combined account called as a Manufacturing and Trading Account.  The process of creating a trading, profit and loss, and balance sheet is referred to as \"final accounts preparation.\" 3.7 KEYWORDS Manufacturing and Trading Account: Manufacturing and trading accounts may be prepared independently by a manufacturing company. Small manufacturing companies, however, may only construct one combined account called as a Manufacturing and Trading Account. Horizontal Analysis: The term \"horizontal analysis\" refers to the updating of data from two or more areas side by side. Financial statement analysis: It is the act of correctly establishing the relationship between the items on the balance sheet and the profit and loss account in order to discover the firm's financial strengths and weaknesses. 3.8 LEARNING ACTIVITY 1. Comparative income statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 2. Comparative Financial statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 3. Characteristics of financial statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 75 CU IDOL SELF LEARNING MATERIAL (SLM)

4. Definition of Financial Statement Analysis ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 3.10 PRACTICAL PROBLEMS 1. Table 3.3 Practical Problems 76 CU IDOL SELF LEARNING MATERIAL (SLM)

2. Table 3.4 Practical Problems Table 3.5 Practical Problems 77 CU IDOL SELF LEARNING MATERIAL (SLM)

3. Table 3.6 Practical Problems 78 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 3.7 Practical Problems 4. Table 3.7 Practical Problems 79 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 3.8 Practical Problems 3.11 UNIT END QUESTIONS A. Descriptive questions Short answers 1. Limitation of financial statement 2. Comparative Balance sheet 3. Comparative Income statement Long answers 1. Explain Comparative Balance sheet with its format. 2. Explain Comparative Income statement with its format. 3. Analysis of financial statement. B. Multiple choice questions 1. The term ___________refers to the updating of data from two or more areas side by side. a. Horizontal Analysis 80 CU IDOL SELF LEARNING MATERIAL (SLM)

b. Vertical Analysis c. Parallel Analysis d. None of the above 2. In order to increase the reliability of financial statements, it is crucial that the facts they include are susceptible to objective _________ a. Checking b. verification. c. Inspection d. Rectification 3. Financial statement analysis is the act of correctly establishing the relationship between the items on the balance sheet and the profit and loss account in order to discover the firm's _________. a. strengths and weaknesses b. opportunities and threats c. talent and skills d. Ups and downs 4. All ___________from the trial Balance are closed by transferring them to the Trading and Profit and Loss Account as final accounts are being prepared. a. Personal account b. Real account c. Nominal account d. Savings account 5. _____________are prepared for decision-making as well as to satisfy external reporting requirements a. Financial statements b. Income statements c. Balance sheet d. All of the above Answers 1-a, 2-b, 3-a, 4-c, 5-a 81 CU IDOL SELF LEARNING MATERIAL (SLM)

3.12 REFERENCES References book  Financial Statement Analysis - Martin Fridson. ...  International Financial Statement Analysis - Thomas Robinson. ...  The Finance Book - Stuart Warner & Si Hussain. ...  Financial Statements: Step by Step - Thomas Ittelson. Website  https://www.investopedia.com/terms/f/financial-analysis.asp  https://corporatefinanceinstitute.com/resources/knowledge/finance/types-of-financial- analysis/  https://en.wikipedia.org/wiki/Financial_analysis 82 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 4 ANALYSIS OF FINANCIAL STATEMENT III STRUCTURE 4.0 Learning Objectives 4.1 Introduction 4.2 Common size statement format 4.3 Summary 4.4 Keywords 4.5 Learning Activity 4.6 Unit End Questions 4.7 References 4.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Define financial statement analysis.  Format of common size income statement  Format of common size balance sheet  Prepare financial statement 4.1 INTRODUCTION You have learned about the income statement and balance sheet of firms’ financial statements. These are essentially condensed financial reports that give an overview of a company’s operating performance and financial status. The specific information provided can be used to evaluate a company’s operational effectiveness and financial stability. This necessitates accurate information analysis and interpretation, for which a variety of methodologies (tools) have been created by financial specialists. Financial statements are the end result of the accounting cycle and provide reliable, timely, and relevant financial information for making informed economic decisions. A company’s main goal is to make money. It is a matter that every company must take seriously. The difference between an organization’s total revenues and its total expenses for a certain time 83 CU IDOL SELF LEARNING MATERIAL (SLM)

period is its profit. The owner is also curious about their financial standing. The process of creating a trading, profit and loss, and balance sheet is referred to as “final accounts preparation.” Meaning and Definition: Financial statement analysis is the act of evaluating the financial data present in the financial statements critically in order to comprehend and make judgments regarding the firm’s operations. It consists primarily of an analysis of the relationships between various financial facts and figures as presented in a set of financial statements, as well as their interpretation in order to gain knowledge of the firm’s profitability and operational effectiveness and to evaluate the firm’s financial condition and future prospects Financial analysis is a broad word that encompasses both analysis and interpretation. The term “analysis” refers to the methodical classification of financial data that is used to simplify it for the financial statements. Interpretation entails describing the importance and meaning of the facts. These two complement one another well. Analyses are pointless , difficult or impossible without interpretation, while interpretation is impossible without analysis. Understanding Analysis and Interpretation It is essential to comprehending the significance of Analysis of financial statements cannot be done in isolation because they complement one another without any interpretation.  Financial Analysis: It focuses on the right classification of given data to simplify financial data in the monetary statement.  Interpretation: It focuses on elucidating the relevance and meaning of the financial data. Definition of Financial Statement Analysis  As per Myer: Financial Statement Analysis is largely a study of relationships among the various financial factors in a business, as disclosed by a single set of statements, and a study of trends of these factors, as shown in a series of statements.  The financial statements provide a summary of the accounts of a business enterprise , the balance sheet reflecting the assets , liabilities and capital as on a certain data and 84 CU IDOL SELF LEARNING MATERIAL (SLM)

the income statements showing the results of operations during a certain period ―. (John N. Meyer 2009).  The end product of financial accounting is a set of financial statements prepared by the accountant of a business enterprise that purport to reveal the financial position of the enterprise the result of its recent activities, and an analysis of what has been done with earnings’’. (Smith and Ashburn 2017). 4.2 COMMON SIZE FINANCIAL STATEMENT Items are shown as a percentage of a common base amount, such as total sales revenue, in a financial statement of common size. This kind of financial statement makes it simple to compare one company to another or different time periods within the same company. However, any comparison could not be true if the organizations employ various accounting systems. Although the majority of businesses do not present their financial statements in a similar size format, analysts find it useful to do so when contrasting two or more businesses of various sizes or from various economic sectors. This method of formatting financial statements eliminates potential bias and enables the analysis of a corporation across time. For instance, this analysis illustrates what proportion of sales go toward the cost of items sold and how that proportion has evolved over time. The income statement, balance sheet, and cash flow statement are examples of financial statements with typical sizes. All numbers are rounded to the nearest equivalent in common size financial statements, such as a percentage of sales or assets. The standardization of figures varies slightly between financial statements. Common Size Balance Sheet Statement A summary of the company’s assets, liabilities, and shareholders’ equity for the reporting period is given in the balance sheet. The concept used to draw up a common size income statement also applies to a common size balance sheet. Assets equal liabilities + stockholders’ equity is the balance sheet equation. As a result, the balance sheet shows an asset percentage. A different rendition of the common size balance sheet displays the percentages of assets, liabilities, and shareholders’ equity. 85 CU IDOL SELF LEARNING MATERIAL (SLM)

Assets are shown as a percentage of total assets, liabilities as a percentage of total liabilities, and equity as a percentage of total equity. Common Size Cash Flow Statement The financial sources and uses of the company are outlined in the cash flow statement. Cash flows from operations, cash flows from investing, and cash flows from financing are separated on the cash flow statement. Additional details regarding the sources and applications of money in each company activity are provided in each area. The common size cash flow statement has a variation where each line item is expressed as a percentage of overall cash flow. The most often used method refers to total operating cash flow for items in cash flows from operations, total investment cash flows for items in cash flows from investing activities, and total financing cash flows for items in cash flows from financing activities. Common Size Income Statement An overview of sales, expenses, and net income for the reporting period is given in the income statement, which is also known as the profit and loss (P&L) statement. Net income is the result of subtracting sales from expenses and adjustments on the income statement. Because of this, every item is expressed as a percentage of sales in the typical size income statement. Although the balance sheet and the cash flow statement can also be expressed as a common size statement, the phrase \"common size\" is most frequently used when evaluating components of the income statement. 1. Common Size Income Statement This is one type of common size statement where the sales is taken as the base for all calculations. Therefore, the calculation of each line item will take into account the sales as a base, and each item will be expressed as a percentage of the sales. Use of Common Size Income Statement It helps the business owner in understanding the following points  Whether profits are showing an increase or decrease in relation to the sales obtained. 86 CU IDOL SELF LEARNING MATERIAL (SLM)

 Percentage change in cost of goods that were sold during the accounting period.  Variation that might have occurred in expense.  If the increase in retained earnings is in proportion to the increase in profit of the business.  Helps to compare income statements of two or more periods.  Recognises the changes happening in the financial statements of the organisation, which will help investors in making decisions about investing in the business. 2. Common Size Balance Sheet: The ratio of each asset to the total assets is determined for balance sheet items in a statement known as a common size balance sheet. Each liability's percentage of the total liabilities is determined for the liabilities. Comparing businesses of various sizes can be done using balance sheets of a common size. Due to the fact that the overall data appear to be impacted by a number of factors, it is not found to be very relevant to compare such figures for the various periods. This approach makes it impossible to establish standard values for a variety of assets since it makes it impossible to analyze the trends in the data and risk getting inaccurate conclusions. Common Size Income Statement Format The common size income statement format is as follows: 87 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 4.1 Common Size Income Statement Format 88 CU IDOL SELF LEARNING MATERIAL (SLM)

Balance sheet Table 4.2 Balance sheet 89 CU IDOL SELF LEARNING MATERIAL (SLM)

Illustration: Table 4.3 Illustration Illustration Table 4.4 Illustration 90 CU IDOL SELF LEARNING MATERIAL (SLM)

Solution: Table 4.5 Illustration Illustration Note 2015-16 2014-15 No. Particulars ₹ 25,00,000 ₹ 20,00,000 ₹ 10,00,000 ₹ 7,00,000 Revenue from Operations ₹ 2,00,000 ₹ 3,00,000 Employee Benefit Expenses Other Expenses 40% 40% Tax Rate Table 4.6 Illustration Common Size Statement of Profit and Loss 91 CU IDOL SELF LEARNING MATERIAL (SLM)

for the year ended March 31, 2015 and 2016 Absolute Amount Percentage of Revenue from Operations Particulars 2014-15 2015-16 2014-15 2015-16 (Rs) (Rs) (%) (%) I. Revenue from Operations 20,00,000 25,00,000 100 100 II. Other Income Total Revenue (I + II) 20,00,000 25,00,000 100 100 Less: Expenses: Employees Benefit cost 7,00,000 10,00,000 35 40 Other Expenses 3,00,000 2,00,000 15 8 Profit before Tax 10,00,000 13,00,000 50 52 Less: Tax @ 40% 4,00,000 5,20,000 20 20.80 Profit after Tax 6,00,000 7,80,000 30 31.20 Table 4.7 Absolute Amount and percentage Illustration: 92 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 4.8 Illustration Common Size Income Statement for the year ended March 31, 2018 Solution: 93 CU IDOL SELF LEARNING MATERIAL (SLM)

Table 4.9 Illustration Prepare Common-size Statement of Profit and Loss from the following Statement of Profit and Loss: 94 CU IDOL SELF LEARNING MATERIAL (SLM)

Solution: Table 4.10 Illustration Common Size Income Statement for the year ended….. Table 4.11 Illustration 95 CU IDOL SELF LEARNING MATERIAL (SLM)

4.2 SUMMARY  A summary of the company’s assets, liabilities, and shareholders’ equity for the reporting period is given in the balance sheet. The concept used to draw up a common size income statement also applies to a common size balance sheet. Assets equal liabilities + stockholders’ equity is the balance sheet equation.  As a result, the balance sheet shows an asset percentage. A different rendition of the common size balance sheet displays the percentages of assets, liabilities, and shareholders’ equity. Assets are shown as a percentage of total assets, liabilities as a percentage of total liabilities, and equity as a percentage of total equity.Manufacturing and trading accounts may be prepared independently by a manufacturing company. Small manufacturing companies, however, may only construct one combined account called as a Manufacturing and Trading Account.  An overview of sales, expenses, and net income for the reporting period is given in the income statement, which is also known as the profit and loss (P&L) statement. Net income is the result of subtracting sales from expenses and adjustments on the income statement. Because of this, every item is expressed as a percentage of sales in the typical size income statement. Although the balance sheet and the cash flow statement can also be expressed as a common size statement, the phrase \"common size\" is most frequently used when evaluating components of the income statement. 4.3 KEYWORDS  Manufacturing and Trading Account: Manufacturing and trading accounts may be prepared independently by a manufacturing company. Small manufacturing companies, however, may only construct one combined account called as a Manufacturing and Trading Account.  Horizontal Analysis: The term \"horizontal analysis\" refers to the updating of data from two or more areas side by side.  Financial statement analysis: It is the act of correctly establishing the relationship between the items on the balance sheet and the profit and loss account in order to discover the firm's financial strengths and weaknesses. 96 CU IDOL SELF LEARNING MATERIAL (SLM)

4.4 LEARNING ACTIVITY 1.common size income statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 2.Common size Financial statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 3. Characteristics of financial statement ___________________________________________________________________________ ___________________________________________________________________________ ___________________________________________________________________________ 4. Definition of Financial Statement Analysis ___________________________________________________________________________ ____________________________________________________________ _______________ ___________________________________________________________________________ 4.7 UNIT END QUESTIONS A. Descriptive questions Short answers 1. Limitation of financial statement 2. Format of common size Balance sheet 3. Format of common size Income statement Long answers 1. Explain Common size Balance sheet with its format. 2. Explain Common size Income statement with its format. 3. Analysis of financial statement. B. Multiple choice questions 97 CU IDOL SELF LEARNING MATERIAL (SLM)

1. The concept used to draw up a common size income statement also applies to a _________ balance sheet a. common size b. Comparative c. Parallel Analysis d. None of the above 2. An overview of sales, expenses, and net income for the reporting period is given in the income statement, which is also known as the ________ statement Checking a. profit and loss b. Inspection c. Rectification d. None of the above 3. Financial statement analysis is the act of correctly establishing the relationship between the items on the balance sheet and the profit and loss account in order to discover the firm's _________. a. strengths and weaknesses b. opportunities and threats c. talent and skills d. Ups and downs 4. All ___________from the trial Balance are closed by transferring them to the Trading and Profit and Loss Account as final accounts are being prepared. a. Personal account b. Real account c. Nominal account d. Savings account 5. _____________are prepared for decision-making as well as to satisfy external reporting requirements 98 CU IDOL SELF LEARNING MATERIAL (SLM)

a. Financial statements b. Income statements c. Balance sheet d. All of the above Answers 1-a, 2-a, 3-a, 4-c, 5-a 4.8 REFERENCES References book  Financial Statement Analysis - Martin Fridson. ...  International Financial Statement Analysis - Thomas Robinson. ...  The Finance Book - Stuart Warner & Si Hussain. ...  Financial Statements: Step by Step - Thomas Ittelson. Website  https://www.investopedia.com/terms/f/financial-analysis.asp  https://corporatefinanceinstitute.com/resources/knowledge/finance/types-of-financial- analysis/  https://en.wikipedia.org/wiki/Financial_analysis 99 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT – 5 LIQUIDITY RATIO STRUCTURE 5.0 Learning Objectives 5.1 Introduction 5.2 Current Ratio 5.3 Quick Ratio 5.4 Cash Reserve Ratio 5.5 Net working capital ratio 5.6 Practical problems 5.7 Summary 5.8 Keywords 5.9 Learning Activity 5.10 Unit End Questions 5.11 References 5.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Describe various liquidity ratios  Identify current ratio vs quick ratio  State the cash ratio and its importance  List the various analysis of ratios 5.1 INTRODUCTION A accounting ratio between two related financial variables is known as an accounting ratio. Ratio analysis is the process of meaningfully evaluating the accounting ratios and making decisions as a result. Current Ratio, Equity Ratio, Debt to Equity Ratio, Fixed Assets Turnover Ratio, etc. are a few examples of the most popular ratios. A crucial group of financial indicators known as liquidity ratios is used to assess a debtor's capacity to settle current debt commitments without the need for outside funding. The measurement of indicators such as the current ratio, quick ratio, and operating cash flow ratio 100 CU IDOL SELF LEARNING MATERIAL (SLM)