What is Horizontal Analysis? Process, Formula, Examples

Its importance extends to areas such as strategy development, risk management, and performance evaluation. In this first example, I will be doing a horizontal analysis of Company A’s revenue based on its annual income statement. In the next section, you have step-by-step instructions on how to do horizontal analysis with examples using a balance sheet and an income statement. Now that you have the percentage change values for your chosen variables – both for your company and others in the same industry – it’s time to analyze your company’s values and those of your competitors. This will allow you to interpret these results within as comprehensive a context as possible.

• Although the company’s net income has increased, it has not kept pace with the increase in revenues, which could be a cause for concern.
• Another limitation is that even minor absolute changes sometimes manifest as significant percentage adjustments in accounts with initially low balances.
• Success is typically indicated by increasing revenues and net profit, while challenges are indicated by declines.
• Each of these provides important metrics that allow analysts to assess a company’s performance over time.
• Regulatory authorities often require companies to perform horizontal analysis as part of their financial reporting obligations.

Company

Similarly, suppose the analysis reveals that the business’s inventory turnover ratio is higher than its competitors. In that case, it may indicate that the company needs to improve its inventory management to optimize cash flow. Below is the calculation for revenue that increased from Rs. 100,000 in 2017 to Rs. 150,000 in 2018. In the final section, we’ll perform a horizontal analysis on our company’s historical balance sheet. The first step to performing a horizontal analysis is to calculate the net difference — in dollar terms ($) — between the comparable periods. We’ll start by inputting our historical income statement and balance sheet into an Excel spreadsheet.

Example: Horizontal Analysis of a Cash Flow Statement

• This article provides an in-depth overview of horizontal and vertical analysis, explaining the key differences, formulas, and benefits of each technique.
• Now that you have the percentage change values for your chosen variables – both for your company and others in the same industry – it’s time to analyze your company’s values and those of your competitors.
• Horizontal Analysis measures a company’s operating performance by comparing its reported financial statements, i.e. the income statement and balance sheet, to the financial results filed in a base period.
• This allows you to compare each year’s assets, liabilities, and equity and identify changes in the company’s financial position.
• According to a study conducted by Green and Clark in 2019, the reliability of trend identification is enhanced by 30% when financial data is analysed over a decade.

This information can also be used to set financial goals and forecast future performance. There are three main methods used for making comparisons in horizontal analysis – direct comparison, variance analysis, and percentage method. The priority here should be to identify the company’s areas of strengths and weaknesses to create an actionable plan to drive value creation and implement operating improvements. By applying horizontal analysis in these practical scenarios, ManufacturingCo, Inc. enhances its financial decision-making processes and ensures adherence to regulatory standards. As you can see there is a heavy focus on financial modeling, finance, Excel, business valuation, budgeting/forecasting, PowerPoint presentations, accounting and business strategy. The most common way to represent it is as a percentage increase over the identical line item in the base year.

Analyzing Operating Cash Flow Trends

If you use Layer, you can even automate parts of this process, including the control of data flows, calculations, and sharing the results. Vertical analysis is a financial analysis technique that compares financial data to a base period or benchmark to determine the relative proportions of each data component. For example, it shows the percentage of each item in relation to a base item in the same period. The cash flow statement displays the outflows and inflows of a company over a specific period.

Income statements and balance sheets are the primary financial statements that are necessary for horizontal analysis. The income statement summarises a company’s revenues, expenses, and net profit or loss over a specified period, typically horizontal analysis formula one year. Horizontal analysis is a financial analysis technique that compares financial data over multiple reporting periods to identify trends and patterns in a company’s business cycle. Horizontal analysis involves comparing line items in financial statements across consecutive periods, usually a recent year to a base year.

• These steps provide a systematic approach to extracting valuable insights from financial data.
• An expense category that commences at Rs. 1,000 and increases to Rs. 2,000 represents a 100% increase, but only a Rs. 1,000 variance in actual rupees.
• The horizontal analysis involves comparing financial data over several reporting periods, typically several years.
• Balance sheets provide a snapshot of a company’s financial position at a specific point in time, allowing you to assess its assets, liabilities, and equity.
• One of the overall goals of horizontal analysis is to help users gauge what stage the business is in.

The cash flow statement is also beneficial for horizontal analysis, in addition to the income statement and balance sheet. To conduct horizontal analysis, collect financial statements prepared according to GAAP, determine comparison methods, calculate absolute and percentage changes between periods, and analyse trends. The research determined that horizontal analysis offers substantial insights into financial trends, which facilitates the development of more informed strategic decisions. Additionally, the investigation demonstrated that organisations that implemented this retained earnings approach experienced a 15% decrease in unforeseen financial discrepancies, which improved their overall financial stability and stakeholder confidence. As explained in Jones’ 2022 research published in the Journal of Financial Analysis, over 80% of companies rely on these methods to gain insights into trends and growth from period to period.

Analyzing Liability Trends

The balance sheet is a representation of a company’s financial status at a specific moment in time, including equity, liabilities, and assets. Horizontal analysis is a financial analysis technique that compares financial information over multiple periods to identify trends and changes. Horizontal analysis is used to assess a sequence of financial statement data over a specified time frame. By comparing financial results from prior periods with those from more recent periods, a company enhances its capacity to determine the direction and magnitude of account balance movements.

Regulatory Compliance and Reporting

As the name suggests, trend analysis involves identifying trends and predicting outcomes, which requires analyzing data from multiple consecutive periods. Horizontal analysis, also known as trend analysis, is an effective financial analysis method that enables businesses to compare financial data from different periods and identify trends and changes over time. The horizontal analysis enables businesses to compare their financial statements of different years to see their financial performance over time.

SaaS Profit and Loss Statement

For example, if your industry is seasonal, comparing consecutive quarters would provide misleading results. It would make more sense to compare the values for a specific quarter to the same quarter from past years. If you happen to choose a particularly bad time period for your base values, the values for your comparison period may look much better than Bookkeeping for Painters they are.