Chapter 9 - Financial statement analysis and financial ratios

Abstract

Financial statements reveal the details of a company's operating and financial historical performance. Financial authorities require timely dissemination of company financial statements to the public, and investment analysts and fund managers use the data in financial statements to identify problems or opportunities that might affect existing or potential investments. Reported accounting data can be used for comparing similar companies within an industry. The data is also utilized to assess a company's ability to meet financial obligations, such as interest payments, and subsequently to determine bankruptcy risk. Analysts use accounting data to predict future profitability of companies and to estimate future rates of return in the stock market. The financial statement comprises of three major financial reports—the income statement, the balance sheet, and the cash flow statement. Understanding the format and content of the above reporting statements is crucial for analysts and fund managers to provide value-added earnings and cash flow analysis. Accounting data are also useful in assessing the economic prospects of the firm. Economic data used for valuation purposes are based on available accounting data.