Analysis on the horizontal level allows investors and analysts to examine a firm’s performance over several years and identify trends and growth patterns. This sort of study permits analysts to observe changes in various line items over time and project them into the future. To perform horizontal analysis, you will need to gather financial data for your company over a specific period. This data can be pulled from your company’s financial statements, such as the balance sheet, income statement, and cash flow statement.
Financial statement analysis can be used to evaluate a company’s liquidity, solvency, profitability, and overall financial position. Analyzing a company’s financial statements investors and comparing company performance with other companies in the same industry helps analysts to make informed decisions about whether or not to invest in the company. By applying the horizontal analysis formula correctly, you can analyze and compare financial statements, identify trends and changes, and gain insights into the financial performance and stability of a business or organization over time.
Relevance and Use of Horizontal Analysis Formula
Horizontal analysis is most useful when an entity has been established, has strong record-keeping capabilities, and has traceable bits of historical information that can be dug into for more information as needed. This type of analysis is more specific relevant for analyzing the value we maybe selling or acquiring. With the financial information in hand, it’s time to decide how to analyze the information.
From a general view, it could be seen that the company made considerable growth in its income between the years. The percentage representation makes it easier to determine the level of change between these different periods. To start with, the statements over which comparison is intended to be made need to be in existence and available.
How to perform Horizontal Analysis?
Second, a variance analysis determines not only the dollar amount but the direction of change for a given general ledger account. In fact, there must be a bare minimum of at least data from two accounting periods for horizontal analysis to even be plausible. A fundamental part of financial statement analysis is comparing a company’s results to its performance in the past and to the average industry benchmark set by comparable peers in the same (or adjacent) industry. Vertical analysis serves as a more feasible technique compared to horizontal analysis. It is also useful for inter-firm or inter-departmental performance comparisons as one can see relative proportions of account balances, regardless of the size of the business or department.
- For example, upper management may ask “how well did each geographical region manage COGS over the past four quarters?”.
- Financial statement analysis can be used to evaluate a company’s liquidity, solvency, profitability, and overall financial position.
- For example, earnings per share (EPS) may have been rising because the cost of goods sold (COGS) has been falling or because sales have been growing steadily.
- A trend is then determined and the level and quality of details you obtain from your financial statements depend on the software or accounting technique you use.
The horizontal analysis formula is a very useful tool for comparing different years and understanding how a company is performing. By using this formula, businesses can identify areas where they need to make changes to improve their performance. By analyzing horizontal analysis of both Apple and Microsoft’s financial statements, we can see that Microsoft had higher Revenue growth and Gross Profit Margin than Apple in both years. A horizontal analysis of Jonick’s 2018 and 2019 income statements appears above.
What Is the Difference Between Horizontal Analysis and Vertical Analysis?
Using consistent accounting principles like GAAP ensures consistency and the ability to accurately review a company’s financial statements over time. Comparability is the ability to review two or more different companies’ financials as a benchmarking exercise. Horizontal analysis, or “time series analysis”, is oriented around identifying trends and patterns in the revenue growth profile, profit margins, and/or cyclicality (or seasonality) over a predetermined period. Horizontal and vertical analysis are two types of analysis you can do that use simple mathematical formulas.
It involves comparing financial information from one year to another and analyzing the differences between them. This type of analysis will help you identify trends and measure how well a company performs against its competitors or previous years. Likewise, the following is a horizontal analysis of a firm’s 2018 and 2019 balance sheets. Again, the amount and percentage differences for each line are listed in the final two columns and can be used to target areas of interest.