Financial analysis is a critical process used to evaluate the performance and health of businesses, projects, and investments. It involves examining financial statements, calculating key ratios, and identifying trends to make informed decisions about investments, lending, and business strategy.
Financial statements are the foundation of financial analysis. The three core statements are the Income Statement, which shows revenue and expenses over a period; the Balance Sheet, which provides a snapshot of assets, liabilities, and equity at a specific point in time; and the Cash Flow Statement, which tracks how cash moves through operating, investing, and financing activities.
Financial ratios are powerful tools that help analysts compare companies and assess performance. Liquidity ratios like the current ratio measure a company's ability to pay short-term debts. Profitability ratios such as Return on Equity show how effectively a company generates profits from shareholders' investments. Leverage ratios like debt-to-equity indicate the company's financial risk and capital structure.
Trend analysis is essential for understanding a company's financial trajectory over time. Horizontal analysis compares financial data across multiple periods to identify growth patterns and calculate year-over-year changes. Vertical analysis expresses each item as a percentage of a base amount, making it easier to spot shifts in financial structure. These techniques help analysts forecast future performance and identify emerging opportunities or risks.