Financial Analysis and Reporting Business Model

To illustrate how a business is structured to provide a

customer proposition, the fundamental business
“Introduction in Accounting” model is built on 5 key activities:
09/05/2022 1. Investing
Accounting - Investors provide the required capital for the
business. Thus, aside from cash, business can
- (def.) Art of recording, classifying, and analyzing in a use property or equipment as an investment.
significant manner and in terms of money,
- The cash investment will then be held in a
transactions and events which are, in part at
bank account.
least, of financial character, and interpreting
the results thereof.
2. Asset Conversion
- (def.) A service activity. Its function is to provide - From the cash investment, the business can
information, primarily financial in nature, convert it to bring more assets such as
about economic entities that is intended to be furniture and fixtures.
useful in making economic decisions.
- Evolved through the demand of the social and 3. Product/Service Delivery
economic needs of the society. - The combination of business resources
provides the basis for producing the products
- Helps decision-makers make informed choices
or services.
regarding the allocation of scarce resources under
- This activity encompasses the actual delivery
their control.
of the product/service or when you actually
- Quantifies business operations, therefore the earn the revenues.
moniker “language of business” because it tells
something about the business. 4. Asset Generation
- Provides the information “how much am I - The sale of a product or service generates an
spending?”, “how much am I earning?” which helps in asset that may be cash or a receivable.
analyzing how the business can improve their - This asset once collected will produce a cash
management like minimizing expenses and inflow for the business.
maximizing profits.
5. Equity Allocation
- The cash inflow from sale or receivable
Businesses collection in excess of those that will be spent
on operating expenses (e.g. salaries, rent,
- (def.) An organization or enterprising entity engaged
utilities, inventory) will be allocated to;
in commercial, industrial, or professional
activities. • Debt payment and interest on these
debts
- Can be for profit entities or non-profit organizations. • Sent back to the cycle by being
- Business types range from limited liability converted to other assets
companies to sole proprietorships, corporations, and • Paid back to the owners as a “return on
partnerships. their investments”

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Types of Businesses needed in the operation of the
business
1. Services – provides services to customers
• Selling or disposing these resources
2. Trader/Merchandising – retail selling
when they are no longer needed.
3. Manufacturing – use tangible raw materials to
make finished goods
3. Operating
4. Raw Materials Production - creation,
- The use of resources to design, produce,
collection, or extraction of raw material for the
distribute, and market good and services.
production of goods and services, especially
- Basically, all activities encompassing
directly from the natural environment.
operations of the business.
5. Infrastructure – ex: rent, transport vehicles
6. Financial – ex: Banks
Operating Activities
7. Insurance – ex: car insurance, life insurance
• Purchasing
• Production
Business Activities • Selling
• Servicing
1. Financing
• Human Resources
- Methods an organization uses to obtain
financial resources from financial markets and • Distribution
how it manages these resources. • Research and development
- Organizations require financial resources to • Engineering and design
obtain other resources used to produce goods
and services
- Primary resources of financing include Basic Principles
owners and creditors (banks and suppliers).
To generate information that is useful to the users of
financial information, accountants rely on the
Financing Activities following principles:
• When owners bring cash into the
business 1. Objectivity
• When businesses acquire cash loans - Accounting records and statements are based
from banks on the most reliable data available so that it
• When businesses buy assets on credit will be as accurate and as useful and possible.
• When businesses pay off these loans
- Accounting records are based on information
and credit purchases that flows from documented activities by
objective evidence.
2. Investing
- Selection and management of long-term - Without this principle, accounting records
resources that will be used to develop, would be based on whims and opinions and is
produce, and sell products or services. therefore subject to disputes.
- Managers use the capital from financing
activities to acquire resources used in the
2. Historical Cost
asset conversion process.
- Acquired assets should be recorded at their
Investing Activities actual cost and not at what the management
• Buying long-term assets i.e. land, thinks they are worth at reporting date.
building, equipment, etc that are

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3. Accrual-Basis

- Also known as the Expense

Recognition/Revenue Recognition Principle.
- Transactions are recorded using the accrual
basis of accounting.

- The recognition of revenues and expenses

arises when earned or used, respectively.

4. Adequate Disclosure or Completeness

- Requires that ALL relevant information that
would affect the users understanding and
assessment of the accounting entity (the
business) be disclosed in the financial
statements.

5. Materiality
- Financial reporting is only concerned with
information that is significant enough to affect
evaluations and decisions.
- Materiality depends on the size and nature of
the item being judged in a particular
circumstance of its omission.

- Depending on the circumstances, either the

nature or the size of the item could be the
determining factor.

6. Consistency

- The same method of accounting will be used

across all accounting practices and accounting
periods, unless it can be replaced by a more
relevant method.
- Ensures that accounting records over several
accounting periods can easily be compared.
- If this assumption is not true, the financial
statements produced over multiple periods
are probably not comparable.

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 “Introduction in Financial
Reporting”
GAAP’s Goal
09/05/2022
- The ultimate goal of GAAP is to ensure a company's
GAAP financial statements are complete, consistent, and
comparable.
- Generally Accepted Accounting Principles (GAAP)
- This makes it easier for investors to analyze and
- Refer to a common set of accounting rules, standards, extract useful information from the company's
and procedures issued by the Financial Accounting financial statements, including trend data over a
Standards Board (FASB). period of time.
- Public companies in the U.S. must follow GAAP when - It also facilitates the comparison of financial
their accountants compile their financial statements. information across different companies.

Understanding GAAP Criteria for GAAP

- A combination of authoritative standards (set by The general acceptance of an accounting principle
policy boards) and the commonly accepted ways of depends on how well it meets these three criteria:
recording and reporting accounting information.
1. Relevance
- Aims to improve the clarity, consistency, and
comparability of the communication of financial - A principle is relevant to the extent that it
information. results in information that is meaningful and
useful to those who need to know something
about a certain organization/business.
Outside GAAP

- Contrasted with pro forma accounting, which is a 2. Objectivity

non-GAAP financial reporting method.
- A principle is objective when the resulting
- Internationally, the equivalent to GAAP in the U.S. is information is not influenced by the personal
referred to as International Financial Reporting bias or judgement by those who issue it.
Standards (IFRS). IFRS is currently used in 166
jurisdictions. - Objectivity connotes reliability and
trustworthiness.
o In the Philippines it is the Philippine Financial
Reporting Standards (PFRS) - It also connotes verifiability, which means
that there is some way of finding out whether
the information is correct.
GAAP’s Purpose

- Helps govern the world of accounting according to 3. Feasibility

general rules and guidelines.
- “The cost of something should not be greater
- It attempts to standardize and regulate the that its benefits.”
definitions, assumptions, and methods used in
accounting across all industries. - It can be implemented without undue
complexity or cost.
- Covers such topics as revenue recognition, balance
sheet classification, and materiality. These criteria often conflict with one another because
in some cases, the most relevant solution might be the
least objective, and the least feasible.
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EITF 3. Feasibility – the benefits of getting the
financial information must be greater than
- Emerging Issues Task Force (EITF)
the cost of going through all the process.
- Organization created by the Financial Accounting
Standards Board (FASB) in 1984.
Accounting Assumptions
- Responsible for developing and implementing a
streamlined set of accounting principles in order to 1. Accrual Assumption
prevent different practices from becoming accepted. - Also known as the Expense
Recognition/Revenue Recognition Principle.
- Aims to provide assistance and improvements to the
- Transactions are recorded using the accrual
financial reporting system.
basis of accounting.
- The recognition of revenues and expenses
arises when earned or used, respectively.
EITF’s Rationale and Methods
o Transactions must be recorded when
- Designed to minimize the need for the FASB to spend they are incurred regardless of when
time and effort addressing the narrow they are paid.
implementation, application, or other emerging issues - If this assumption is not true, a business
that can be analyzed within existing GAAP. should instead use the cash basis of accounting
- It holds public meetings, which are scheduled several to develop financial statements that are based
times each year. This allows the board to identify on cash flows. The latter approach will not
emerging accounting issues and resolve them with a result in financial statements that can be
uniform set of practices before divergent methods audited.
arise and become widespread.
2. Conservatism/Prudence
- Requires the exercise a high degree of
FASB verification and utilize solutions that show the
least aggressive numbers when faced with
- The Financial Accounting Standards Board (FASB)
uncertainty.
- An independent nonprofit organization responsible - The guideline requires that losses be
for establishing accounting and financial reporting recorded as soon as they are quantified
standards for companies and nonprofit organizations (certain or uncertain), while gains are only
in the United States, following generally accepted recorded when they are assured of being
accounting principles (GAAP). realized.
- Mission: Improve financial accounting and reporting o Revenues and expenses should be
standards so that the information is useful to investors recognized when earned, but there is a
and other users of financial reports. bias toward earlier recognition of
expenses.
- To minimize the overstatement of revenue
3 Principles in Accounting and assets and to understate the liabilities and
expenses.
1. Relevance – results must be useful and
o Overstate = prudence
necessary.
- sobrang pagkakareport
2. Objectivity – financial information must be
- this is more suitable in reporting
evidenced-based, which means free from
expenses so the company will not
bias.
incur loss, but a gain if overstated.

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 o Understate = conservatism 6. Reliability/Objectivity Assumption
- kulang/lowkey reporting - Only those transactions that can be
- this is more suitable in reporting adequately proven should be recorded.
income so the company will not expect - Businesses must be able to prove
much more and will gain if transactions through such things as receipts,
understated. billing statements, invoices, and bank
- If this assumption is not true, a business may statements.
be issuing overly optimistic financial results. - If this assumption is not true, a business is
3. Consistency Assumption probably artificially accelerating the
- The same method of accounting will be used recognition of revenue.
across all accounting practices and accounting
periods, unless it can be replaced by a more
relevant method. 7. The Period Assumption / Periodicity
- Ensures that accounting records over several - The financial results reported by a business
accounting periods can easily be compared. should cover a uniform and consistent period
- If this assumption is not true, the financial of time.
statements produced over multiple periods - These periods should also be consistent each
are probably not comparable. year that the business is in operation. It can be
monthly, quarterly, biannually, or annually but
4. Economic Entity Assumption must be consistent so that records can be
- Assumes that the accounting records of a compared over set time periods.
business and the personal accounting records - If this is not the case, financial statements will
of the business’ owner will be kept separate. not be comparable across reporting periods.
- The transactions of a business and those of its
owners are not intermingled. 8. Stable Monetary Unit Concept
o This assumption is a particular - Assumes that the Philippine peso (or the
problem for small, family-owned currency you are reporting) is a reasonable
businesses. unit of measure and that its purchasing power
- If this assumption is not true, it is impossible is relatively stable.
to develop accurate financial statements. - Allows to add and subtract peso amounts as
though each peso has the same purchasing
5. Going Concern Assumption power as any other peso at any time.
- Assumes that the business will continue to - Ignores the effects of inflation.
operate for the foreseeable future.
- It assumes that the company will not go
bankrupt and will be able to meet its Importance of Different Assumptions
obligations and objectives
- Presumes that the business will be operating - Enhances the reliability, verifiability, and objectivity
of financial statements; establishes credibility.
beyond its next fiscal period, will complete its
expected plans, and meet its projected goals. - Enable the users of the financial statements to
- If this assumption is not true (such as when evaluate and confirm the genuineness of an
bankruptcy appears probable), deferred organization’s financial records and assess economic
expenses should be recognized at once. well-being.

- Offers a systematic structure concerning how the

accounting transactions of an organization for a

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particular financial period must be recorded and
reported in the financial statements.

Forms of Business Entities

A business generally assumes on of the three types of
a business organization. The accounting procedures
depend on which form the organization takes.
1. Sole Proprietorship
- Run by one individual for his or her own
benefit. It is the simplest form of business
organization.
- Although a sole proprietorship is not a
separate legal entity from its owner, it is a
separate entity for accounting purposes.
- Financial activities of the business (e.g.,
receipt of fees) are maintained separately
from the owner’s financial activities.

2. Partnership
- Owned and operated by two or more
persons who bind themselves together to
contribute money, property, or industry to
a common fund, with the intention of
dividing the profits amongst themselves.
- In a general partnership, each partner is
liable for any debt incurred by the
partnership.
- Limited partnerships limit the personal
liability of individual partners for the
debts of the business (ex: Hybrid Entity).

3. Corporation
- Owned by shareholders/stockholders.
- An artificial being created by the
operation of law (a separate legal entity),
having the rights of succession, and the
powers, attributes, and properties
expressly authorized by law or incident to
its existence.
- Stockholders' are not personally liable
for the corporation’s debts.

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 “The Accounting Equation” - Individuals and others that have current or
potential financial interest in the reporting
09/19/22
entity but are not involved in the daily
Objective of General-Purpose Financial Reporting operations of the entity.
- The information needed by these users are so
Accounting Standards
diverse that only the primary of the general-
- Authoritative statements of how particular types of purpose financial statements is provided.
transactions and other events should be reflected in - Need/Use the information about the
financial statements. resources and claims against the resources of
- Accordingly, compliance with accounting standards the entity to assess the entity’s prospects for
will normally be necessary for the fair presentation of future net cash inflows
the financial statements. - Their decision involves the assessment of
costs, benefits, and risks of their own interest.
- The information is used to make the best
IFRS decision for the oneself.
- Their information needs are served by
- International Financial Reporting Standards
financial accounting (external and
- IFRS is the international accounting framework independent).
within which to properly organize and report financial 1. Creditors
information. 2. Potential Investors
3. Suppliers
- Derived from the pronouncements of the London-
4. Employees
based International Accounting Standards Board
(IASB). 5. Customers/Clients
6. Government
7. Labor unions
GAAP vs IFRS 8. Stockholders/Owners

- The primary difference between the two systems is • Internal Users

that GAAP is rules-based and IFRS is principles-based. - Users that are involved in the daily
- This disconnect manifests itself in specific details and operations of the entity and in most cases,
interpretations. involved in decision making.
- The information needed by these users are
- IFRS guidelines provide much less overall detail than
usually specific and are designed to help the
GAAP.
entity attain its overall strategies and mission .
- Need/Use the information about how
effectively and efficient the management has
Objective of Reporting
discharged the responsibilities to use the
- The objective of general-purpose financial reporting entity’s existing resources.
is to provide financial information about the reporting - Their decision involves the assessment of
entity that is useful to present and to users of financial costs, benefits, and risks of the reporting
information in making decisions. entity.
- The information is used to make the best
decision for the reporting company.
Users of Financial Information - Management Accountants design and use an
• External Users information system that primary helps in
planning and control decisions.

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 1. Directors - Obligations of an entity to outside
parties who have furnished resources.
2. CEOs and CFOs
- A present obligation of the enterprise
3. Vice Presidents arising from past events, the
settlement of which is expected to
4. Managers
result in an outflow of from the
5. Supervisors enterprise of resources embodying
economic benefits.
6. Owners
3. Equity
Limitations - Residual interest in the assets of the
- The IFRS Framework notes that the general-purpose enterprise after deducting all the
financial reports cannot provide all the information liabilities.
that the users might need to make economic decisions.
• Statement of Financial Performance/ Income
- They will need to consider pertinent information Statement
from the other sources, for example, general economic
conditions and expectations, political events and 1. Income
political climate, and industry and company outlooks.
- Increases in economic benefits during the
accounting period in the form of inflows or
enhancements of assets or decreases of
The Accounting Equation
liabilities that result in increases in equity,
Information Flow other than those relating to contributions
from equity participants. (encompasses
both revenues and gains.)
o Revenue
- Arises from the course of the
ordinary activities of an enterprise.
- Referred to by a variety of different
names including sales, fees, interest,
dividends, royalties, and rent.
o Gains
- Represent other items that meet the
definition of income and may or may
not arise in the ordinary course of the
Elements of Financial Statements activities in the enterprise.

• Statement of Financial Position/ Balance Sheet 2. Expenses

1. Assets
- Decreases in economic benefits during
- Resources controlled by the
the accounting period in the form of
enterprise because of past events from outflows or depletions of assets or
which future economic benefits are incurrences of liabilities that result in
expected to flow to the enterprise. decreases in equity, other than those
- The future economic benefits relating to distributions to equity
embodied in the asset may flow to the participants (owners). (definition
enterprise in a number of ways. encompasses losses as well.)
2. Liabilities

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 o Expenses Debit-Credit
- Arises from the course of the
ordinary activities of an enterprise.
- There are various classes of expenses,
but they are generally classified as cost
services rendered or good sold,
distribution or selling expenses, admin
expensive or other operating Account Titles
expenses.
o Losses 1. Assets
- Represent other items that meet the • Current Assets
definition of income and may or may - It expects to realize the asset, or intends to
not arise in the ordinary course of the sell or consume it, in its normal operating cycle
activities in the enterprise. It holds the asset primarily for trading.
- It expects to realize the asset within 12
months.
Relation Between Accounting and Financial
- The asset is cash or cash equivalent unless
Statements
restricted.
- Financial Statements tell us how a business is o Cash
performing. They are final products of the accounting o Cash Equivalents
process. o Notes Receivable
- The most basic tool in making up the financial o Accounts Receivable
statements is the accounting equation and o Inventories
understanding the nature and different types of o Prepaid Expenses
accounts.
• Non-current Assets
- All other assets not falling under the
The Account definition of Current.
o Property, Plant, and Equipment
- Basic summary device of accounting.
o Accumulated Depreciation
- A separate account is maintained for each element o Intangible Assets
that appears in the balance sheet and income
statement. 2. Liabilities

- Detailed record of increases and decreases, and the • Current Liabilities

balance for each element that appears in the financial o Accounts Payable
statements. o Notes Payable
o Accrued Liabilities
- The simplest form of account is known as the T-
o Unearned Revenues
account.
o Current Portion of Long-Term Debt

• Non-current Liabilities
o Mortgage Payable
o Bonds Payable
o Notes Payable

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3. Owner’s Equity NOTE:
o Capital • Debits does not mean Increases and Credits
o Withdrawals does not mean decreases.
o Income Summary • The effect of the transactions of the Equity
accounts depend on the nature of the accounts.
• Income • The accounting equation is the most
o Service Income/Service Revenue fundamental concept of Accounting.
o Sales • Rent is always prepaid, and Sales is always
• Expenses accrued.
o Cost of Sales/Cost of Goods Sold
o Salaries or Wages Expenses
o Utilities Expenses (may be T-Accounts
telecommunications facilities, Debit Credit
electricity, water, and fuel)
o Rent Expense
o Supplies Expense
o Insurance Expense
o Depreciation Expense
o Uncollectible Accounts Expense
o Interest Expense

Equity

Double-Entry System

- Accounting is based on a double-entry system which

means that the dual effects of a business transaction is
recorded.

- It states that every debit side entry has a

corresponding credit side entry.
- And that the total debits must equal total credits
- It means that for every transaction there is one or
more accounts debited and one or more accounts
credited.

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 “Accounting for Business
Transactions”
09/20/2022

Financial Transaction

The Accounting Cycle

1. Identify Events to be Recorded

2. Journalize
3. Post Entries to the Ledger

4. Prepare Trial Balance

5. Worksheet and Adjustments

6. Prepare Financial Statements
7. Journalize and Post Adjustment
Example: 8. Journalize and Post Closing

9. Prepare Post Closing Trial Balance

10. Reverse

Journalizing
- Financial Transactions Recorded in the Journal

Journal Entries

1. Record - A journal is a chronological record of the

entity's transactions.
2. Effects - A journal shows the effects of a business
transaction in terms of debits and credits
3. Double-entry - An accounting transaction affects the
company's finances in two ways.
Example of a Journal:

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Parts of a Journal

Journalizing Business Transactions

- After the event or the transaction has been identified
and measured, it is recorded in the journal using the
double-entry system.

Example of Journalizing Entries:

13
NOTE:

• The accounting cycle does not start with

journalizing.
• Although the FS is the output of the accounting
process, the cycle does not end with it.

14
 ADDITIONAL INFOS ONLY obtain or increase ownership interests (or equity) in
it. Assets, most commonly received as investments by
“Chapter 1: Introduction to owners, may also include services or satisfaction or
Financial Reporting” conversion of liabilities of the enterprise.
Ref. Book: Financial Reporting and 5. Distribution to owners - is a decrease in equity of a
Analysis
particular business enterprise resulting from
transferring assets, rendering services, or incurring
liabilities by the enterprise to owners. Distributions to
Financial Reports owners decrease ownership interest (or equity) in an
• Demand for financial reports exists because enterprise.
users believe that the reports help them in 6. Comprehensive income - is the change in equity (net
decision making. assets) of a business enterprise during a period from
• financial statements are to be useful, they transactions and other events and circumstances from
must report economic activity without nonowner sources. It includes all changes in equity
coloring the message to influence behavior in during a period except those resulting from
a particular direction. They must not investments by owners and distributions to owners.
intentionally favor one party over another. 7. Revenues - are inflows or other enhancements of
• Financial statements must provide a neutral assets of an entity or settlements of its liabilities (or a
scorecard of the effects of transactions combination of both) from delivering or producing
goods, rendering services, or other activities that
constitute the entity’s ongoing major or central
AICPA operations.
- American Institute of Certified Public Accountants 8. Expenses - are outflows or other consumption or
- a professional accounting organization whose using up of assets or incurrences of liabilities (or a
members are CPAs. combination of both) from delivering or producing
goods, rendering services, or carrying out other
activities that constitute the entity’s ongoing major or
central operations.
Different Kinds of Accounts
9. Gains - are increases in equity (net assets) from
10 Elements of Financial Statements
peripheral or incidental transactions of an entity and
1. Assets - are probable future economic benefits from all other transactions and other events and
obtained or controlled by a particular entity as a result circumstances affecting the entity during a period
of past transactions or events. except those that result from revenues or investments
by owners.
2. Liabilities - are probable future sacrifices of
economic benefits arising from present obligations of 10. Losses - are decreases in equity (net assets) from
a particular entity to transfer assets or provide peripheral or incidental transactions of an entity and
services to other entities in the future as a result of from all other transactions and other events and
past transactions or events. circumstances affecting.

3. Equity - is the residual interest in the assets of an

entity that remains after deducting its liabilities:

Equity = Assets – Liabilities

4. Investments by owners - are increases in equity of a
business enterprise resulting from transfers to the
enterprise from other entities of something of value to

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 “Chapter 3: Balance Sheet” Example of Balance Sheet in Account Form:
Ref. Book: Financial Reporting and
Analysis

Financial Statements:

1. Balance Sheet / Statement of Financial Position /

Statement of Financial Condition

- shows the financial condition of an accounting entity

as of a particular date.

- most basic financial statement, and it is read by

various users as part of their decision-making process.
Example of a Summarized Balance Sheet:
- balance sheet formats differ across nations.

- consists of three major sections:

• Assets - resources of the firm;

• Liabilities - the debts of the firm;
• Stockholders’ equity - the owners’ interest in
the firm.

- total assets amount must equal the total amount of

Accumulated Depreciation Formula:
the contributions of the creditors and owners. This is
expressed in the accounting equation: • Straight-Line Method = recognizes
depreciation in equal amounts over the
Assets = Liabilities + Stockholders’ Equity
estimated life of the asset. (best choice :>)
Example of Balance Sheet in Report Form:

Note: Do not depreciate the salvage value.

Salvage value is the amount for which the
asset can be sold at the end of its useful life.

Problems in Balance Sheet Presentation

- may cause difficulty in analysis

1. many assets are valued at cost, so one cannot

determine the market value or replacement cost of
many assets and should not assume that their balance
sheet amount approximates current valuation.

2. varying methods are used for asset valuation.

similar problems exist with long-term asset valuation
and the related depreciation alternatives.

16
- These problems do not make statement analysis
impossible. They merely require that qualitative
judgment be applied to quantitative data in order to
assess the impact of these problem areas.

Single-Step Income Statement

“Chapter 4: Income Statement”

Ref. Book: Financial Reporting and
Analysis

2. Income Statement / Statement of Comprehensive

Income

-the most important financial statement

- summarizes revenues and expenses and gains and
losses, ending with net income.
Example of a Single-Step:
- summarizes the results of operations for a particular
period of time.

- net income is included in retained earnings in the

stockholders’ equity section of the balance sheet. (This
is necessary for the balance sheet to balance.)

Multiple-Step Income Statement

Example of a Multiple-Step:
3. Statement of Cash flows
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 “Chapter 5: Basics of Analysis” • Borrowing capacity (leverage) ratios measure
the degree of protection of suppliers of long-
Ref. Book: Financial Reporting and Analysis
term funds.
• Profitability ratios measure the earning ability
The analysis of financial data employs various of a firm. Discussion will include measures of
techniques to emphasize the comparative and relative the use of assets in general.
importance of the data presented and to evaluate the • Investors are interested in a special group of
position of the firm. ratios, in addition to liquidity, debt, and
profitability ratios.
• Cash flow ratios can indicate liquidity,
Financial Statement Analysis borrowing capacity, or profitability.

- a judgmental process. One of the primary objectives - Ratios are interpretable in comparison with;
is identification of major changes (turning points) in
trends, amounts, and relationships and investigation (1) prior ratios,
of the reasons underlying those changes. Often, a (2) ratios of competitors,
turning point may signal an early warning of a
significant shift in the future success or failure of the (3) industry ratios, and
business. The judgment process can be improved by
(4) predetermined standards.
experience and using analytical tools.
- Comparison of income statement and balance sheet
- consists of the quantitative and qualitative aspects of
numbers, in the form of ratios, can create difficulties
measuring the relative financial position among firms
due to the timing of the financial statements.
and industries.

- analysis can be done in different ways, depending on

the type of firm or industry and the specific needs of
the user.
2. Common-size Analysis (Vertical and Horizontal)
- financial statements will vary by size of firm and
among industries. - expresses comparisons in percentages.
- use of common-size analysis makes comparisons of
firms of different sizes much more meaningful.
Techniques in Analyzing Financial Statements
- care must be exercised in the use of common-size
- The information derived from these types of analysis analysis with small absolute amounts because a small
should be blended to determine the overall financial change in amount can result in a very substantial
position. No one type of analysis supports overall percentage change.
findings or serves all types of users.

• Vertical Analysis - compares each amount with

1. Ratio Analysis a base amount selected from the same year.
- usually expressed as a percent or as times per period. • Horizontal Analysis - compares each amount
with a base amount for a selected base year.
• Liquidity ratios measure a firm’s ability to
meet its current obligations. They may include
ratios that measure the efficiency of the use of
current assets and current liabilities.

18
 whether that ratio is falling, rising, or remaining
relatively constant.

- this helps detect problems or observe good

management.

Standard Industrial Classification (SIC) Manual

- we use the Philippine Standard Industrial
Classification (PSIC).
- a detailed classification of industries prevailing in the
country according to the kind of productive activities
undertaken by establishments.

- the PSIC was revised to (1) reflect changes in

economic activities, emergence of new industries, and
the structure of the economy (2) to take into account
the new technologies employed which affect the
organization of production and shifting of economic
activities and (3) to realign with the ISIC revisions for
purposes of international comparability.
3. Year to Year Change Analysis
- statistical classification of business by industry.
- aids in keeping absolute and percentage changes in
perspective. - determining a company’s SIC is a good starting point
in researching a company, an industry, or a product.
Rules in Performing Year to Year Change Analysis Many library sources use the SIC number as a method
1. When an item has value in the base year and none in of classification
the next period, the decrease is 100%.
2. A meaningful percent change cannot be computed Financial Statement Variation by Type of Industry
when one number is positive, and the other number is
negative. • Merchandising Firm
- (retail-wholesale) firms sell products
3. No percent change is computable when there is no purchased from other firms.
figure for the base year
- A principal asset is inventory, which consists
of merchandise inventories.
- For some merchandising firms, a large
amount of sales may be for cash.

• Service Firm
- generates its revenue from the service
provided. Because service cannot typically be
4. Trend Analysis stored, inventory is low or nonexistent.
- studies the financial history of a firm for comparison.
By looking at the trend of a particular ratio, one sees

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 • Manufacturing Firm
- will usually have large inventories composed
of raw materials, work in process, and finished
goods, as well as a material investment in
property, plant, and equipment.

Industry Norms and Key Business Ratios

1.Agriculture/Mining/Construction/Transportation/
Communication/Utilities

2. Manufacturing
3. Wholesaling

4. Retailing
5. Finance/Real Estate/Services

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