Analysis of Financial Statements Class 12 Notes: This article brings to you Revision Notes for Class 12 Accountancy Chapter 4 Analysis of Financial Statements. A PDF download link has also been attached below for the CBSE Analysis of Financial Statements. These short notes are based on the updated and revised CBSE Syllabus and guidelines for students appearing in the upcoming CBSE Board Exam 2024.
Revision Notes are important for preparing for the examinations because they are an amalgamation of all the important points from the chapter. They will guide you through the important topics that should not be missed and be your last-minute revision partners.
Related:
CBSE Class 12 Accountancy Syllabus 2023-2024
CBSE Class 12 Accountancy MCQs
NCERT Solutions for Class 12 Accountancy
CBSE Class 12 Accountancy Chapter 2 Mind Maps
CBSE Class 12 Accountancy Chapter 1 Revision Notes
CBSE Class 12 Accountancy Chapter 2 Revision Notes
Revision Notes for CBSE Class 12 Accountancy Chapter 4 Analysis of Financial Statements
What do you mean by Analysis of Financial Statements?
Financial statement analysis is a judgemental process that aims to estimate current and past financial positions and the results of the operation of an enterprise, with the primary objective of determining the best possible estimates and predictions about future conditions. It establishes relationships and throws light on the points of strengths and weaknesses of a business enterprise.
Importance of Analysis of Financial Statements
The following are the importance of financial statements:
- Financial analysis focuses on the facts and relationships related to managerial performance, corporate efficiency, financial strengths and weaknesses, and creditworthiness of the company. A finance manager must be well-equipped with the different tools of analysis to make rational decisions for the firm.
- It is their overall responsibility to see that the resources of the firm are used most efficiently and that the firm’s financial condition is sound. Financial analysis helps the top management measure the success of the company’s operations, appraise the individual’s performance, and evaluate the system of internal controls
- Trade payables use analysis of statements to appraise not only the ability of the company to meet its short-term obligations but also judge the probability of its continued ability to meet all its financial obligations in the future.
- Long-term lenders analyze historical financial statements to assess their future solvency and profitability.
- Investors evaluate the efficiency of the management and determine whether a change is needed or not. They also focus on the capital structure of the firm and the firm’s earnings.
- Labor unions analyze the financial statements to assess whether they can presently afford a wage increase and whether they can absorb a wage increase through increased productivity or by raising the prices.
- Economists, researchers, etc., analyze the financial statements to study the present business and economic conditions.
Objectives of Analysis of Financial Statements
The following are the objectives of financial statements:
- to assess the current profitability and operational efficiency of the firm as a whole as well as its different departments so as to judge the financial health of the firm
- to ascertain the relative importance of different components of the financial position of the firm
- to identify the reasons for the change in the profitability/financial position of the firm
- to judge the ability of the firm to repay its debt and assess the short-term as well as the long-term liquidity position of the firm
Tools of Analysis of Financial Statements
Following tools are used to analyze financial statements:
- Comparative Statements– These are the statements showing the profitability and financial position of a firm for different periods of time in a comparative form to give an idea about the position of two or more periods. It usually applies to the two important financial statements, namely, the balance sheet and statement of profit and loss prepared in a comparative form.
- Common Size Statements– These are the statements that indicate the relationship of different items of a financial statement with a common item by expressing each item as a percentage of that common item.
- Trend Analysis is a technique of studying the operational results and financial position over a series of years by comparing the position of an enterprise through various time stamps. Trend analysis is important because it can point to basic changes in the nature of the business.
- Ratio Analysis describes the significant relationship which exists between various items of a balance sheet and a statement of profit and loss of a firm. It helps to assess the profitability, solvency, and efficiency of an enterprise.
- Cash Flow Analysis– It refers to the analysis of the actual movement of cash into and out of an organisation. The flow of cash into the business is called as cash inflow or positive cash flow and the flow of cash out of the firm is called as cash outflow or negative cash flow. The difference between the inflow and outflow of cash is the net cash flow. Cash flow statement is prepared to reflect upon the same.
What is a Comparative Statement?
These statements refer to the statement of profit and loss and the balance sheet prepared by providing columns for the figures for both the current year as well as for the previous year and for the changes during the year, both in absolute and relative terms. As a result, it makes it possible to know the balances of accounts for various operational activities along with reflecting upon the increase and decrease in various dates.
How to prepare Comparative Statements?
The following process is followed to prepare Comparative Statements:
- List out absolute figures in two-time stamps. For example: Year 1 and year 2
- Find out the change in absolute figures by subtracting the first year (Col.2) from the second year (Col.3) and indicate the change as an increase (+) or decrease (–) and put it in column 4
- Preferably, also calculate the percentage change as follows and put it in column 5
Check the table below for a better understanding:
Comparative Statement
|
Particulars |
Year 1 |
Year 2 |
Absolute Increase (+) or decrease (-) |
Percentage Increase (+) or decrease (-) |
|
1 |
2 |
3 |
4 |
5 |
|
|
Rs. |
Rs |
Rs |
% |
What is a Common Size Statement?
Common Size statement is a financial tool for studying the key changes and trends in the financial position and operational result of a company. It is also known as a component percentage statement. Each item in the statement is stated as a percentage of the aggregate or revenue from operations of which that item is a part.
How to prepare Common Size Statements?
The following process is followed to prepare Common Size Statements:
- List out absolute figures in two-time stamps. For example: Year 1 and year 2
- Choose a common base. For example: Let’s say the common base is 100. The base for revenue from operations is 100 understatement of profit and loss and total assets/total liabilities are 100 under the balance sheet
- Calculate % of all the items mentioned in Columns 2 and 3. The % has to be reflected under columns 4 and 5, respectively.
Check the table below for a better understanding:
Common Size Statement
|
Particulars |
Year 1 |
Year 2 |
Percentage of Year 1 |
Percentage of Year 2 |
|
1 |
2 |
3 |
4 |
5 |
|
|
|
|
|
|
Limitations of Analysis of Financial Statements
The limitations of Analysis of Financial Statements are mentioned below as:
- Analysis of financial statements does not consider price level changes
- Can be misleading if interrupted by changes to the accounting procedure of the company
- It is just a study of the reports of the company
- Only monetary information is given importance, non-monetary aspects are ignored
- The statements are prepared according to the accounting concepts and thus leave room for error since it does not know about the current position of the company
To download the complete Revision Notes for CBSE Class 12 Analysis of Financial Statements, click on the link below
Also Check:
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