Financial Analysis-the Accountants Tool

“Financial Analysis is referred to as evaluation,computation and interpretation of analytical ratio’s from financial statements to determine the financial trend  of the organization in taking effective management decisions”.There are various financial tools that are used by the finance managers which include Fund flow analysis,Cash flow analysis,Ratio analysis,Break-even analysis,Operating and Financial leverages.The Balance sheet reflects the true and fair view of the state of affairs of the company and only the study  of Balance sheet  is not sufficient in ascertaining the financial position of the company,there is a need to know the Cash flows and Fund flows underlying the Balance sheet.Therefore the sources and applications of funds serves the purpose.Further,the ‘Leverages’both Operating and Financial helps in Capital gearing,Leverage means meeting the fixed cost or paying fixed return for employment of resources and fund.It is also defined as the companies own ability to use fixed cost assets or funds to enable more return of funds to its owner.Operating leverage takes place when the company has fixed cost that must be met regardless of volumes or value of sales but when there is widespread fluctuation in sales which in turn leads to more high fluctuations in the operating profit –it is referred to as Operating leverage.On the other hand Financial leverage is referred to as the company’s ability to use fixed financial charges and indicates an effect on earnings created by the use of these fixed charges while making capitalization plans.Therefore Financial leverage can be considered as tool in effective utilization of funds at a fixed cost with the hope of providing more increased return to shareholders.Where Q denotes number of units sold; P denotes selling price per unit denotes variable cost per unit; F denotes fixed cost; L denotes degree of operating leverage. In planning the Financial structure and strength of the company ,Cost-Volume-Profit analysis or in better known as “Break Even Analysis” is very important. It helps in ascertaining the relationship of cost and revenues to output. The analysis is generally presented in a Break even chart .Total sales is calculated =Total cost Total variable cost which is also known as the Break even Point and the chart which shows this point is known as the Break even chart.Ratio analysis was the first financial tool developed that proved to be helpful in analyzing and interpreting financial statements.Ratio analysis is therefore the process of determining and interpreting the numerical relationships based on financial statements.Frequent measurement in terms of ratio’s helps to identify problems which needs to be solved, thus enabling correction. So in order to attain sustainability, ratio analysis’s very important. Some important ratio’s are: Structural ratios, profitability ratios, working capital ratios, Miscelleneous ratios.

                                  An effective financial management can only be expected or judged by reviewing the record of the past as to the sources and application of funds. Therefore the Fund flow analysis is thus a very important and the most vital tool in the hands of the financial management. It is a statement which is in the form of condensed report showing sources and application of funds. This statement shows how the activities of the organization have been financed and how the financial resources have been utilized during the period; the statement shows the ebb and flow of funds into and out of the business known as cash inflow or outflow. In the investment analysis point of view Cash flow is a useful concept .It is one of the most important and analytical tool of a finance manager which helps him to judge the ability of the firm to meet the debt requirements, maintain regular dividends, to finance replacement and expansion costs. The financial statement that summarizes the organizations assets, liabilities and shareholders equity at the end of a financial year. The Balance sheet gives an overview of what is the financial position of the company at the end of the financial year, has the company incurred profit or is running under loss. The balance sheet is one of the most important pieces of financial information issued by a company.  The income statement, on the other hand, shows how much revenue and profit a company has generated over a certain period. Neither statement is better than the other - rather, the financial statements are built to be used together to present a complete picture of a company's finances.

 “An analysis of financial statements for the future is extremely valuable to the organisation in planning the intermediate and long term financing of the firm. Therefore financial analysis has many advantages and it is a very effective weapon in the armoury of the Financial

Management which helps organizations to fight many adversaries. Financial analysis is required in taking effective management decisions:

1.      How to manage the finances of the firm to attain strategic goals?

2.      How to increase profitability?

3.      How to reach self sufficiency and break even point?

4.      How to manage liquidity?

5.      What is the best financial structure?

Therefore Financial Analysis is also called the “Accountants Tool”. In a nutshell, financial analyst assesses the organizations:

1. Profitability    










2. Solvency                    










3. Liquidity










4. Stability

The financial statements serve as an analytical tool that help in computation of ratio’s and cash flow measures and is a learning medium that helps to evaluate, predict and reconstruct the economic reality that lay embedded in these financial statements. This article not only describes and deplores opaque financial reporting practices but provides practical suggested lines of action  for these practices and to bring in organizational effectiveness.

Financial Analysis emphasizes on the managerial applications and adheres to the standard techniques and modern developments. Analysis of financial statements is also done through information technology mediums such as computers, Today a lot many financial accounting packages have been specially designed which serve as a calculating tool for finance professionals.

The use of Tally,Excel,Sap and various other ERP softwares for example are now gaining impetus to ensure smooth financial analysis.Therefore to determine the trends in the organization,bring about sustainability,monitor profitibilty,efficiency and portfolio quality,identifying critical factors involved in financial unsustainibilty and removing them with the effective and standardized use of the financial analysis tool which not only provides a structure and basis for reporting but also recording all the financial transactions during a given year.It is the basis for successful and sustainable micro-finance operations without which the MFI’s(commonly use four types of financial statements-Balance sheet,Income statement,Cash flow/Fund flow statement,Portfolio report) stop functioning.