Introduction to Objectives of Financial Statement Analysis

What you will learn to do: Describe how financial statements are used to analyze a business

Businesses publish financial statements to communicate information about their operating performance and economic health. The income statement shows the profitability of a business by presenting its revenue and expenses for a period of time and summarizes its profitability in one final result: net income. The retained earnings statement reports all of the profit a business has accumulated since it began operations. The balance sheet is a comprehensive summary report that lists a business’s assets, liabilities, owner investments, and accumulated profit.

Once the financial statements are available, the next step is to analyze them to glean useful information about a corporation’s performance over time and its current financial health. These insights help business managers and investors make decisions about future courses of action. Areas of weakness may be identified and followed up with appropriate measures for improvement. Elements of strength should be reinforced and continued.

Much of this financial statement analysis is accomplished using ratios that reveal how one amount relates to another. One or more amounts are divided by other amount(s), yielding a decimal or percentage amount. However, no ratio is particularly meaningful by itself; it needs to be compared to something else, such as desired or expected results, previous results, other companies’ results, or industry standards. This comparison lets you know where you stand in terms of whether you are doing better, worse, or the same as what you have expected or hoped for.

For this module on financial statement analysis, we’ll be using the following statements from a hypothetical company:

Jonick Company
Comparative Income Statement
For the Years Ended December 31, 2019 and 2018
Description 2019 2018
Sales $994,000 $828,000
Cost of merchandise sold 414,000 393,000
Gross Profit Single Line$580,000 Single Line$435,000
Subcategory, Operating Expenses:
      Salaries expense $77,000 $64,000
      Rent expense 63,000 52,000
      Insurance expense 56,000 46,000
      Supplies expense 49,000 41,000
      Advertising expense 42,000 35,000
      Depreciation expense 35,000 29,000
      Utilities expense 28,000 23,000
Total operating expense Single Line348,000 Single Line290,000
Net income from operations $232,000 $145,000
Subcategory, Other revenue and expenses
      Gain on sale of investments $137,000 $186,000
      Interest expense (55,000) (50,000)
Income before income tax $314,000 $281,000
Income tax expense 66,000 50,000
Net income Single Line$248,000 Double Line Single Line$231,000 Double Line

 

Jonick Company
Comparative Balance Sheet
December 31, 2019 and 2018
2019 2018
Assets
Subcategory, Current assets:
Cash $373,000 $331,000
Marketable securities 248,000 215,000
Accounts receivable 108,000 91,000
Merchandise Inventory 55,000 48,000
Prepaid insurance 127,000 115,000
      Total current assets Single Line$911,000 Single Line$800,000
Subcategory, Long-term investments:
Investment in equity securities $1,946,000 $1,822,000
Subcategory, Property, plant and equipment:
Equipment (net of accumulated depreciation) $87,000 $42,000
Building (net of accumulated depreciation) 645,000 581,000
Land 361,000 361,000
      Total property, plant and equipment $1,093,000 $984,000
         Total assets Single Line$3,950,000Double Line Single Line$3,606,000Double Line
Liabilities
Subcategory, Current liabilities:
Accounts payable $120,000 $109,000
Salaries payable 244,000 222,000
      Total current liabilities Single Line$364,000 Single Line$331,000
Subcategory, Long-term liabilities
Mortgage note payable $83,000 $83,000
Bonds payable 828,000 745,000
      Total long-term liabilities Single Line$911,000 Single Line$828,000
         Total liabilities $1,275,000Double Line $1,159,000Double Line
Stockholders’ Equity
Preferred $1.50 stock, $20 par $166,000 $166,000
Common stock, $10 par 83,000 83,000
Retained earnings 2,426,000 2,198,000
      Total stockholders’ equity Single Line$2,675,000 Single Line$2,447,000
Total liabilities and stockholders’ equity $3,950,000Double Line $3,606,000Double Line

 

Jonick Company
Comparative Retained Earnings Statement
For the Years Ended December 31, 2019 and 2018
Description 2019 2018
Retained earnings, beginning of year $2,198,000 $1,987,000
Net income 248,000 231,000
Less: Preferred stock dividends 12,000 12,000
      Common stock dividends 8,000Double Line 8,000Double Line
Increase in retained earnings 20,000 20,000
Gross Profit Single Line$2,426,000Double Line Single Line$2,198,000Double Line