Trend Analysis of Financial Statements

The company’s stock price has been increasing on a daily basis for the last 7 days, by 0.02% a day. Mr. Nolan determined that this is an uptrend, since in the past, whenever the company has had this increases the uptrend has endured for more than 3 months. Horizontal analysis is a financial analysis technique used to evaluate a company’s performance over time. By comparing prior-period financial results with more current financial results, a company is better able to spot the direction of change in account balances and the magnitude in which that change has occurred.

• As a company grows, it often becomes more difficult to sustain the same rate of growth, even if the company grows in pure dollar size.
• Horizontal analysis also makes it easier to compare growth rates and profitability among multiple companies in the same industry.
• Analysts then take this data and attempt to predict the direction the market will take moving forward.
• One of the most basic ones is to simply plot the data points and visually establish the presence of a trend.

Additionally, the way a company reports information within accounts may change over time. For example, where and when certain transactions are recorded may shift, which may not be readily evident in the financial statements. In this example, the sales have increased 59.3% over the five‐year period while the cost of goods sold has increased only 55.9% and the operating expenses have increased only 57.5%. At the end of 20X0, the sales had increased almost 20%, but the cost of goods sold had increased 31%, and the operating expenses had increased almost 41%. These 20X0 trend percentages reflect an unfavorable impact on net income because costs increased at a faster rate than sales. The trend percentages for net income appear to be higher because the base year amount is much smaller than the other balances.

Trend analysis examples

Second, they should choose the relevant financial indicators and formulas to calculate the growth rate, trend line, and trend ratio of each indicator. Third, they should plot the data on a graph or a table to visualize the trends and patterns. Fourth, they should interpret the results and explain the meaning and implications of the trends. Fifth, they should compare and contrast the trends with other sources of information, such as industry benchmarks, competitors’ data, or projections.

Price and volume are among the most popular, but you can use many other metrics and indicators depending on the purpose of your analysis. These may include technical and price indicators, frequently based on moving averages, and momentum indicators, like the relative strength index. An accounts receivable turnover of four times per year may be low for Banyan Goods. Given this outcome, they may want to consider stricter credit lending practices to make sure credit customers are of a higher quality.

• Additionally, it is important to be aware of the limitations of the data and use appropriate statistical techniques.
• In many cases, it is important to examine changes over a specific period because this enables the evaluation of emerging trends that may influence performance in future years.
• Investors and business managers use this information to make data-driven decisions and improve strategies.
• In addition to using financial ratio analysis to compare one company with others in its peer group, ratio analysis is often used to compare the company’s performance on certain measures over time.
• In order to begin analyzing applicable data, it is necessary to first determine which market segment will be analyzed.

Trend analysis is the process of looking at current trends in order to predict future ones and is considered a form of comparative analysis. Though a trend analysis may involve a what is a natural business year large amount of data, there is no guarantee that the results will be correct. An overview of how financial ratios are used to aid in company analysis is presented in this lesson.

Trend analysis

On the other hand, horizontal analysis looks at amounts from the financial statements over a horizon of many years. Trend analysis aims to identify and analyze potentially significant patterns in historical data. The identification and analysis of trends is also a common research objective. Identifying trends in your data to make more accurate predictions is useful in any industry.

For example, the vertical analysis of an income statement results in every income statement amount being restated as a percent of net sales. If a company’s net sales were $2 million, they will be presented as 100% ($2 million divided by $2 million). If the cost of goods sold amount is $1 million, it will be presented as 50% ($1 million divided by sales of $2 million). Second, a variance analysis determines not only the dollar amount but the direction of change for a given general ledger account.

What Does Trend Analysis Mean?

It is also helpful in comparing stocks in two markets like the London Stock Exchange (LSE), and the New York Stocks Exchange (NYSE). Trends are of three different types; short trends, long-term trends, and scalp or swing trends (Trends used in analyzing future patterns for more than a month but less than three months). Trend analysis in financial trading aims to predict market movements, like a bear run (more selling than buying), and uses this trend for trading till a reversal occurs.

Creditors and company managers also use ratio analysis as a form of trend analysis. Indeed, sometimes companies change the way they break down their business segments to make the horizontal analysis of growth and profitability trends more difficult to detect. Financial statement analysis reviews financial information found on financial statements to make informed decisions about the business. The income statement, statement of retained earnings, balance sheet, and statement of cash flows, among other financial information, can be analyzed.

1 Trend Analysis of Financial Statements

There are several advantages and disadvantages to financial statement analysis. Financial statement analysis can show trends over time, which can be helpful in making future business decisions. Converting information to percentages or ratios eliminates some of the disparity between competitor sizes and operating abilities, making it easier for stakeholders to make informed decisions. It can assist with understanding the makeup of current operations within the business, and which shifts need to occur internally to increase productivity.

Examples of Trend Analysis

Meeting long-term obligations includes the ability to pay any interest incurred on long-term debt. Two main solvency ratios are the debt-to-equity ratio and the times interest earned ratio. Company management may analyze
trends to assess the company’s performance and make management decisions. In general, trend analysis is extremely valuable for investors and business owners. Considering the current data availability, the value of trend analysis is inseparable from data-driven decisions, especially while leveraging public web data. With up to 5 years of historical data, you can analyze if and how seasons, certain political events, and other ESG factors affect a company’s performance.

A common approach is to establish the oldest year as the base year and compute future years as a percentage of the base year. My Accounting Course  is a world-class educational resource developed by experts to simplify accounting, finance, & investment analysis topics, so students and professionals can learn and propel their careers. 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. The higher the figure, the better the company is using its investments to create a profit.

The information obtained from this analysis can benefit decision-making for internal and external stakeholders and can give a company valuable information on overall performance and specific areas for improvement. The analysis can help them with budgeting, deciding where to cut costs, how to increase revenues, and future capital investments opportunities. Figure 13.1 “Income Statement Trend Analysis for ” shows that net sales increased by $4,129,000,000, or 13.3 percent. Cost of goods sold had a corresponding increase of $1,605,000,000, or 14.5 percent. The increase in net sales and related increase in cost of goods sold resulted in an increase in gross margin of $2,524,000,000, or 12.7 percent. This is important as we continue our analysis of Coca-Cola Company throughout the chapter.

Financial ratios are used for industry comparisons, benchmarking, and trend analysis. This section also presents some limitations of financial ratio analysis to consider when evaluating firms. Fundamental analysis considers that the usual stock metrics don’t always reflect real value. Analysts gather all the information they can on the market they are studying, including quantitative and qualitative analysis of financial documents and contextual data. Fundamental analysis is generally used for more long-term investment decisions.

There are two general ways of discovering trends in stock – one using technical analysis and the other using fundamental analysis. For example, if Banyan Goods set total assets as the base amount and wanted to see what percentage of total assets were made up of cash in the current year, the following calculation would occur. Trend analysis calculates the percentage change for one account over a period of time of two years or more. The performance trend in sales and net profit are growth-oriented, given the increasing trend. However, percentage growth in terms of net profit exceeded sales percentage growth.