Ratios: Balance Sheet and Horizontal Analysis Essay

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Horizontal analysis (also known as trend analysis) is a financial statement analysis technique that shows changes in the amounts of corresponding financial statement items over a period of time. It is a useful tool to evaluate the trend situations.
The statements for two or more periods are used in horizontal analysis. The earliest period is usually used as the base period and the items on the statements for all later periods are compared with items on the statements of the base period. The changes are generally shown both in dollars and percentage.
Dollar and percentage changes are computed by using the following formulas:

Horizontal analysis may be conducted for balance sheet, income statement, schedules of current and fixed assets and statement of retained earnings.
Example:
An example of the horizontal analysis of balance sheet, schedule of current assets , income statement and statement of retained earnings is given below:
Comparative balance sheet with horizontal analysis:

Comparative schedule of current assets:

Comparative income statement with horizontal analysis:

Comparative retained earnings statement with horizontal analysis:

In above analysis, 2007 is the base year and 2008 is the comparison year. All items on the balance sheet and income statement for the year 2008 have been compared with the items of balance sheet and income statement for the year 2007.
The actual changes in items are compared with the expected changes. For example, if management expects a 30% increase in sales revenue but actual increase is only 10%, it needs to be investigated.
Related exercises and problems:
Exercise-11 (Comparison of FIFO, LIFO and average costing method)

Related articles:
Vertical analysis (common-size analysis) of financial statements
Preparation of common-size financial statements
Classification of financial ratios
Types/classification of inventory

28 Responses to “Horizontal analysis (trend analysis) of financial statements”
Yeng Says:
April 7th, 2013 at 3:30 am
I know how to calculate the % change from year 1 to year. However, I am having difficulty understand the increase and decrease in each items on the income statement and balance sheet. Is the increase/decrease a weakness or strength and why it’s a strength or weakness?
Accounting for Management Says:
April 7th, 2013 at 2:29 pm
Hi Yeng,
Thank you for using accountingformanagement.org. The answer of your question is in the last two lines of the main article.
Horizontal analysis does not fully discloses the weaknesses or strengths of a company. The following are the main purposes of horizontal analysis:
(1). to see the trend of various income statement and balance sheet figures of a company.
(2). to evaluate whether the management is achieving its objectives or not.
(3). to investigate unexpected increases or decreases in financial statement items.
(4). to evaluate overall performance of the company
In a horizontal analysis the the changes in income statement and balance sheet items are computed (in dollars and percentage) and compared with the expected changes. For example, you start an advertising campaign and expect a 25% increase in sales. But if sales revenue increases by only 5%, then it
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