Ratio and trend analysis are very important for businesses to analyze their utilization of assets, operational effectiveness, efficiency, solvency, profitability risk, liquidity and financial position. It helps to show the comparison and trend of the financial outcomes, which could be useful for the decision-making by the investors and owners. However, there are many things you need to consider while doing these analyses. This article will give you seven important points to consider when working on ratio and trend analysis.
Definition of Ratio and trend Analysis:
Following are the definitions of ratio and trend analysis:
Ratio analysis:
Ratio analysis is considered a quantitative interpretation. It can help to evaluate the financial performance of a company. Ratio analysis can give you valuable information related to the profitability of the company, liquidity positions, operational efficiency and solvency, as shown by the financial statements. In this analysis, you will compare one value with another. With the help of ratio analysis, users like analysts, government, creditors, investors, and shareholders can get a better understanding of the financial statement. That is why; this type of analysis is considered a very powerful tool for analysis. It can help to analyze the financial health of an organization.
Trend analysis:
This analysis is a powerful tool used to analyze the monetary statement of a company for the purpose of investments. It is used by investors to check the financial position of a company. In this analysis, you use the financial statement of a company which is compared with other financial statements of the past several years in percentage. In this type of analysis, you will convert the values of several years into a percentage so that you can compare them with each other to analyze the trend. By examining the trend, you will be able to check if your model fits in the data or not. If the model closely follows the actual data, then it fits in your data. if you face any difficulty in doing this analysis,then you should look for finance coursework help.
Important points:
Following are the important you need to consider while working on ratio and trend analysis:
1. Focus on planning:
The purpose of these two analyses is to make plans for the future. You need to observe the trend in profits, sales, costs and other facts with the help of computing ratios of the related accounting figures for the past few years. You need to use trend analysis to forecast and plan the future activities of a business. It is important that you also calculate the budget. A budget is considered an estimation of future activities by considering the part experience. You need to use accounting ratios to estimate the budget. For instance, you might be able to prepare a sales budget by using the analysis of past sales activities.
2. Communicate properly:
In ratio and trend analysis, it is important that you communicate the information properly. For this, ratios are effective ways to communicate. They play a crucial role in informing the progress and position made by the business so that related parties and owners can understand the business better. With proper communication, you will be able to measure the operating efficiency. It will show the degree of efficiency in the utilization and management of assets. There are various activity ratios which show the operational efficiency of a business. It usually depends on the revenue of a business created by using the assets.
3. Make comparison:
While doing this analysis, it is important that you compare the performance of two or more businesses which shows the efficient and inefficient companies. In this way, you can enable inefficient business to adopt solutions to improve their performances. The best way to do the comparisons is by comparing the related ratios of companies with the average ratios of the relevant industry. In this way, you can use this analysis to control the performance of various departments and divisions, and you can also control the costs.
4. Indicate long-term solvency position and liquidity position:
The next thing that you need to keep in mind while doing ratio and trend analysis is that you should indicate the liquidity position of a business. You need to indicate the capability of a company to pay. You should use this analysis to analyze the long-term debt-paying capacity of a business. The long-term solvency position of a business is the main concern for the long-term creditors, owners of the business and security analysts. You can measure this by profitability ratios and capital or leverage structure which show the operating efficiency and earning power. This analysis shows the weakness and strengths of a business in this regard.
5. Show the overall profitability:
With the help of ratio and trend analysis, you need to show the overall profitability of a business. The management of a company is always focused on the overall profitability of the business. They want to ensure whether the business can meet its long-term as well as short-term obligations to the creditors. In this way, they can make sure that they can utilize the assets of the business in an optimum way. It is possible if you consider all the ratios together. It is important to note that a firm is considered when it cannot generate profit. It can suffer a liquidity crisis. Thus, you need to do ratios analysis to check the corporate sickness so that the business can take measures to prevent it.
6. Provide help for decision-making:
Your analysis must be in a way that helps in the decision-making process. It can help to make decisions on various business matters such as supplying goods, getting back loans etc.
7. Simplify the Financial Statements:
In ratio and trend analysis, you should simplify the financial statements so that the readers can easily understand the relationship between various items.
Conclusion:
With the help of the above guide, you can easily perform ratio and trend analysis without any difficulty. You must need carefully consider the above points before doing these analyses. In this way, you can evaluate the performance of a business in the best way.
