how to make financial analysis?

Financial analysis refers to the assessment of the viability, stability, liquidity and profitability of a business, sub-business or enterprise. This financial analysis is conducted by professionals who report using ratio analysis, common size analysis and other financial analysis that use data from other financial statements and other reports.

 The concept of financial analysis 

Financial analysis is “the process of systematically processing the available financial statements of an organization to obtain information to be used in the process of making decisions and evaluating the performance of commercial and industrial enterprises in the past and present as well as to diagnose any existing problem - financial or operational - and to predict what the future situation will be like”.

 Financial analysis 

There are specific steps used in the financial analysis procedures, the most important of which are the following:

1. Determine the purpose of the financial analysis (ratio analysis, common size analysis, etc.). This is related to the management decision about what work you want. Do you want to evaluate the final performance, or do you want to conduct an analysis of the project's ability to meet its current obligations, as often happens in banks, for example when you want to grant a loan to an establishment, or is it conduct analysis of labor productivity, and other objectives.
2. The analyst then collects the required information according to the type of analysis. If the objective of the financial analysis (ratio analysis, common size analysis, etc.) is to evaluate the final performance, the analyst collects data on the expenses and revenues for a certain period and identify the key indicators that have a big role in the performance of the project such as sales or production.
3. The analyst then moves on to identify the tools that will be applied in the analysis process and this of course relates to the scientific and technical level of the analyst and the extent of his experience in the field of analysis.
4. Here the analyst uses the relevant data in order to access certain indicators to benefit in the analysis process.
5. After reaching certain indicators, he analyzes these indicators in order to know the direction of these indicators in the future.
6. The analyst then writes his conclusions and recommendations in the form of a report to the body that requested the analysis.

 Types of financial analysis 

There are many types of financial analysis resulting from the tabulation method used by the analyst or specialist and the bases used in the analysis. In general, we will refer to some of these types:

According to the analysis party:

1. Internal Analysis: It is the analysis carried out by an internal entity, i.e. from within the establishment to be analyzed.
2. External analysis: This type of analysis is carried out by outside entities such as banks, chambers of commerce and industry and nowadays specialized in accounting and auditing offices.

According to Time:

1. Vertical analysis (static): In this type of analysis, an item of a single financial statement is attributed to a larger group. For example, the ratio analysis of receivables to current assets or the ratio analysis of machinery and equipment to fixed assets or to total assets, and so on to liabilities in relation to the statement of financial position, for example. Income is attributed to an item of sales, of course, noting that there is a relationship between the item and the group to which it is attributed in order to be meaningful. This financial analysis is static because it examines the relationship between two items or groups in a specific period of time.
2. Horizontal Analysis (Variable): This type of financial analysis is done by calculating the trend of change in the main elements of the financial statements from one year to another in the form of percentages in order to illustrate the changes that occur are calculated as follows:

• The value of the change in any element = the value of the element in the comparison year - the value of the same element in the base year.
• Percentage change = change in point (1) / base year amount.
  The percentage change can be extracted in one step as follows: Percentage of change = [} value of element in comparison year) - value of the same element in base year)} / value of element in base year] * 100

According to the objective of the analysis:

• An analysis of the entity's ability to meet its short-term obligations.
• An analysis of the entity's ability to meet its long-term obligations.
• Financial analysis to assess the profitability of the facility.
• Financial analysis of performance evaluation.
• Financial analysis to evaluate the consistency in the overall funding structure of the project and areas of uses.

 Common size analysis 

Common size analysis involves reproducing financial statements in a common size, that is ratios. Common size analysis is useful to observe changes in the financial statements.

Ratio analysis:

Of the most important aspects in ratio analysis is the liquidity ratios and profitability ratios. Many businesses look at profitability and liquidity as a critical ratio that determine the success or failure of the business. Determining the liquidity and profitability of the business help the business make perception of the current situation of the business.

Profitability and liquidity receive great attention from management. However, profitability and liquidity should be analysed with other ratios to provide an overall look to the business. A business that looks only to profitability and liquidity only will fail to see other important factors that affect the business. Profitability and liquidity ratios should be carefully analysed and compared to other ratios to produce meaningful results.

 Watch: Types of Financial Analysis 

With greetings: Al - Manara Consulting to help researchers and graduate students