Briefly describe the methods of financial statement analysis, what are the advantages and disadvantages of each

Methods of financial statement analysis

(a) Comparative analysis

The theoretical basis of comparative analysis is that the development of objective things is a dialectical combination of unity and diversity. ***Similarity makes them have a comparable basis, differences make them have different characteristics. In practical analysis, these two comparisons are often used in combination.

1. According to the comparative reference standard classification

(1) trend analysis

Trend analysis is the analysis of the period with the previous period or consecutive periods of comparison of the amount of the project. This method of vertical comparison of financial statement items is a dynamic analysis.

Through the analysis of the period and the previous period (last quarter, the same period last year) in the financial statements of the amount of the relevant items compared to the differences in time to identify problems, find the reasons for improvement. Comparison of financial statements for several consecutive periods of the project, can reflect the dynamics of the development of enterprises to reveal the current financial position and business changes, to determine the changes caused by the main project is what, the nature of this change is favorable or unfavorable, to find problems and evaluate the level of financial management of the enterprise, but also can predict the future development trend of enterprises.

(2) peer analysis

Comparing the main financial indicators of the enterprise with the average indicators of the same industry or the indicators of advanced enterprises in the same industry can be a comprehensive evaluation of the enterprise's business performance. Comparison with the average industry indicators, can analyze and judge the position of the enterprise in the industry. Comparison with the indexes of advanced enterprises is conducive to absorbing advanced experience and overcoming the shortcomings of the enterprise.

(3) Budget Variance Analysis

Taking the budgeted amount of the analyzed period as the standard of comparison, the difference between the actual number and the budgeted number can reflect the degree of completion of the budget, which can provide a direction to further analyze and search for the potential of the enterprise.

The main role of the comparative method is to reveal the objective existence of the gap and the reasons for the formation of such a gap, to help people find the problem, tap the potential to improve the work. Comparative method is the basis of a variety of analytical methods, not only the statement of the absolute number of comparisons to illustrate the problem, the calculated financial ratios and structural percentages also need to be compared with the relevant information (comparative standards), in order to draw meaningful conclusions.

2. Classification of indicators by comparison

(1) aggregate indicators

The aggregate refers to the total amount of financial statements of a particular item, such as net profit, accounts receivable, inventory and so on.

Total comparisons are mainly used for historical and budgetary comparisons because the amounts of the items in the accounting statements of different enterprises are not comparable with each other. Sometimes aggregate metrics are also used for comparisons of different businesses, for example, the ranking of companies by asset size or how much profit they make, established by securities analysts.

(2) Financial ratios

Financial ratios are fractions expressed as multiples or proportions, which reflect the interrelationships and interconnections of accounting elements, and represent the characteristics, attributes, or capabilities of a particular aspect of an enterprise. Comparisons of financial ratios are the most important comparisons. They are relative numbers, excluding the effect of size, so that different comparative objects to establish comparability, and therefore widely used in historical comparisons, peer comparisons and budgetary comparisons.

(3) structure of the percentage

Structure of the percentage is a percentage of the internal structure of a statement item. It reflects the proportionality of the components within the item and represents the characteristics, attributes or capabilities of a particular aspect of the business. Structural percentages are actually a special form of financial ratio. They also exclude the effect of size, establish comparability across comparators, and can be used for historical comparisons of the enterprise, comparisons with other enterprises, and comparisons with budgets.

(B) factor analysis

Factor analysis is also a technical method commonly used in the analysis of financial statements, it refers to the analysis of the whole broken down into a number of local analysis methods, including the financial ratio of the factor decomposition method and the difference between the factor decomposition method.

1. Ratio factor decomposition method

Ratio factor decomposition method, refers to a financial ratio is broken down into a number of factors affecting the method. For example, return on assets can be broken down into the product of two ratios, asset turnover and sales margin. Financial ratios are concepts specific to financial statement analysis, and financial ratio decomposition is a method specific to financial statement analysis.

In the actual analysis, the decomposition method and the comparison method are used in combination. Comparison needs to be followed by decomposition to gain insight into the causes of differences; decomposition also needs to be followed by comparison to further recognize its characteristics. Constant comparison and decomposition constitute the main process of financial statement analysis.

2. Variance factor decomposition method

In order to explain the reasons for the formation of differences in comparative analysis, the need to use the variance decomposition method. For example, product material cost variances can be broken down into price and quantity variances.

The variance factorization method is subdivided into the fixed-base substitution method and the chain substitution method.

(1) fixed-base substitution method

Fixed-base substitution method is a quantitative method of determining the causes of comparative variances. According to this method, it is necessary to replace the actual value with the standard value (historical, peer company's or budgeted standard) to determine the impact of each factor on the financial indicators.

(2) Chain substitution method

The chain substitution method is another quantitative analysis method to determine the causes of comparative differences. According to this method, it is necessary to replace the actual value with the standard value in order to determine the impact of each factor on the financial indicators.

In summary, it can be seen that the most important methods for financial statement analysis are comparative analysis and factor analysis. In addition to the common and extensive use of comparative and factor analysis in financial statement analysis, sometimes regression analysis, simulation modeling and other technical methods are also used.

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