analysis is comparison of the various items in the financial statements by
establishing and evaluating relationships among them so that, it gives a better
understanding of the performance and financial status of the business concern.
rearrangement of data in accordance with the purpose of analysis, application
of financial tools, evaluating the relationship among the component parts and
drawing conclusion based on the analysis. Thus, financial statement analysis
includes both analysis and interpretation.
Analysis refers to
examination of the figures computed and comparison of the same to establish
relationship among them and identifying the reasons for the performance or
changes. Interpretation refers to elucidation and explanation of the results of
analysis may be done with any of the following objectives:
To analyse the profitability and earning capacity
To study the long term and short term solvency of the business
To determine the efficiency in operations and use of assets
To determine the efficiency of the management and employees
To determine the trend in sales, production, etc.
To forecast for future and prepare budgets
To make inter-firm and intra-firm comparisons.
Following are the
limitations of financial statement analysis:
All the limitations of financial statements such as ignoring
non-monetary information, ignoring price level changes, etc., are applicable to
financial statement analysis also.
Financial statement analysis is only the means and not an end,
that is, it is only a tool in the hands of management and other shareholders.
Interpretation of the results has to be done only by the financial analysts
with due regard to the internal and external environmental factors.
Expert knowledge is required in analysing the financial
Interpretation of the analysed data involves personal judgement as
different experts may give different views.