A company’s financial statements – such as the balance sheet, cash flow statement, and income statement – can reveal operational results and give a clear picture of business performance. In the same vein, a company’s emerging problems and strengths can be detected by looking at critical business performance, such as return on equity, inventory turnover, or profit margin. In other words, one can take year-on-year or quarter-on-quarter growth rates of all the items of the income statement or the balance sheet – based on the historical data. For example, in the income statement, we can, based on historical data and trends, make assumptions about sales growth and then forecast the sales growth rates through the forecast periods. Another method of horizontal analysis is calculating the variance between multiple financial items in multiple financial statements and spanning multiple accounting periods. Horizontal Analysis, also known as Trend Analysis, is an analysis technique in accounting used over financial statements such as balance sheets, statements of retained earnings, and income statements, among others.

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The vertical analysis involves comparing financial data within a single period by expressing each line item as a percentage of a base figure, typically sales or revenue. It helps assess the composition and proportion of different components within financial statements. Horizontal analysis, on the other hand, compares financial data across multiple periods to analyze trends, changes, and growth rates. It focuses on identifying patterns and variations in performance over time. To conduct horizontal analysis i.e. evaluate underlying trends, it’s essential to compare financial statements of a company or companies over two or more accounting periods. Carrying out horizontal analysis of the income statement and balance sheet helps investors and creditors to determine the current financial position of a company.

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The analysis of critical measures of business performance, such as profit margins, inventory turnover, and return on equity, can detect emerging problems and strengths. For example, earnings per share (EPS) may have been rising because the cost of goods sold (COGS) has been falling or because sales have what is a topside journal entry been growing steadily. We can now see how much any item, such as net income, increased or decreased from year 1 (base year) to year 3 in absolute and percentage terms. In other words, we can calculate how much net income increased or decreased from year 1 to year 3 (or for that matter any year). Here net income has decreased by $2,750 or 12% in year 3 when compared to year 1.

The priority here should be to identify the company’s areas of strengths and weaknesses to create an actionable plan to drive value creation and implement operating improvements. The latter two tend to go hand-in-hand because the most useful benchmark against which to compare recent performance is most often the preceding period. This insights and his love for researching SaaS products enables him to provide in-depth, fact-based software reviews to enable software buyers make better decisions. Using this information, you identify the areas of your business that have seen the most positive changes, what works well for your business, and areas that have experienced negative downturns and need improvement and attention. Here are the straightforward steps which prove not to be as difficult as some other analytic accounting processes. Horizontal Analysis, like every other accounting process, is only accurate or possible when certain defined steps are followed.

Example of Comparative Income Statement with Horizontal Analysis

1. Trend Analysis is a technique used to identify trends spanning different accounting periods by highlighting the changes in different financial statements when comparing items to each other.
2. Prior to publication, articles are checked thoroughly for quality and accuracy.
3. However, as additional information, Colgate has provided some details of segments on page 87.
4. A notable problem with the horizontal analysis is that the compilation of financial information may vary over time.

For this, we compare the absolute change ($) and percentage change (%) in all the line items from one period to the other. One should ideally take three or more accounting periods/years to identify trends and how a company is performing from one year/accounting period to the next year/accounting period. The value of horizontal analysis enables analysts to assess the company’s past performance and current financial position or growth and project the useful insights gained into the future. However, when using the analysis technique, the comparison (current) period can be made to appear uncommonly bad or good.

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In this GKSR example above, we can identify the YoY growth rate using a horizontal income statement analysis. Mike Dion brings a wealth of knowledge in business finance to his writing, drawing on his background as a Senior FP&A Leader. Over more than a decade of finance experience, Mike has added tens of millions of dollars to businesses from the Fortune 100 to startups and from Entertainment to Telecom. Mike received his Bachelor of Science in Finance and a Master of International Business from the University of Florida, laying a solid foundation for his career in finance and accounting. His work, featured in leading finance publications such as Seeking Alpha, serves as a resource for industry professionals seeking to navigate the complexities of corporate finance, small business finance, and finance software with ease. Vertical and horizontal analyses are both tools for financial statement analysis, but they differ in purpose.

Investors, analysts, and even business owners and managers need to track a company’s financial performance over the years to spot its growth patterns. While horizontal analysis is primarily used for financial data, it can also be applied to non-financial data to identify trends and patterns. Here, for the sake of illustration, we have shown the absolute change (in US$) and percentage change (%) of all line items in the income statement between year 1 and year 2 only. In fact, there must be a bare minimum of at least data from two accounting periods for horizontal analysis to even be plausible. In other words, vertical analysis can technically be completed with one column of data, but performing horizontal analysis is not practical unless there is enough historical data to have a useful point of reference.

Through horizontal analysis of financial statements, you would be able to see two actual data for consecutive years and would be able to compare every item. On the other hand, comparability constraint dictates that a company’s financial statements and other documentation be such that they can be evaluated against other similar companies within the same industry. Horizontal analysis is used to improve and enhance these constraints during financial reporting.

With the financial information in hand, it’s time to decide how to analyze the information. For example, if a company starts generating low profits in a particular year, expenses can be analyzed for that year. This makes it easier to spot inefficiencies what is the product life cycle stages and examples and specific areas of underperformance.