The financial analysis seeks some measures and relationships that facilitate decision-making using certain tools and techniques for various purposes, among which we can mention the following:
- Get a preliminary idea about the existence and availability of resources to invest in a specific project.
- It helps us to give us an idea of the future financial situation, as well as the general conditions of the company and its results. We can use it as a tool to measure the performance of the administration or diagnose some existing problems in the company.
It must be said that to evaluate the performance of the administration of a company, there is nothing better than the analysis of profits, which can be increased through the proper management of the resources that a company has, and this can only be measured by the financial analysis.
One of the main tools of any company to assess its current situation is financial analysis. It is a fundamental element to analyze the accounting information to make a diagnosis of its current situation and thus project its future evolution.
But what is it and how should a company do it to be truly useful?
Table of Contents
What is financial analysis?
Financial analysis is a set of techniques and procedures that allow analyzing the financial statements of a company to know its economic reality and how it is expected to evolve in the future.
It allows the accounting of the company to be really useful when making decisions since through this analysis various data and reports are extracted that are relevant to the entrepreneurs and all the agents involved.
This is achieved by using a series of financial ratios, indicators and other techniques that allow obtaining detailed information on the financial situation of the company.
Objectives of financial analysis (internal and external)
The main objective of the financial analysis is to obtain a series of data on the situation of the company that serves as relevant information both internally and externally:
- At external level to provide the information they need investors, creditors, suppliers, customers and, of course, public administrations. In this way, all external agents will be able to know the current situation of the company.
- At the domestic level for both middle managers and executives can make decisions to correct the direction of the company, considering new investments or whether they can access new funding.
How to do the financial analysis of a company
Although companies prepare their own financial reports based on a broad set of indicators, the truth is those small and medium-sized companies do not need as much information. Therefore, before considering how to start, you should know what type of company it is for and what your real need is. Then you can get down to work.
In general, most companies need to know the following indicators:
Liquidity ratios
They serve to know what is the real capacity of the company to meet its financial needs in the short term. For example, the working capital is used to know if our company is in a position to satisfy short-term debts with the current treasury.
In the event that current liabilities are greater than current assets, the company will be at risk of entering into suspension of payments. In these cases, companies often request creditors’ proceedings to access debt refinancing that increase the term of the debts and allow the finances to be breathed.
Solvency ratios
It measures the ability of the company to satisfy all its debts regardless of the term. In general, it is measured as the difference between the assets and the callable liabilities, an equity statement that is also known as net worth.
If the net worth is negative, that is, if the liability is greater than the value of the asset, the company will be in technical bankruptcy. In these circumstances, the company will be doomed to closure.
Business profitability
There are various indicators to determine the profitability of the company, but the most common is the ROE, that is, the return on equity. This ratio tells us how the company’s own resources have been used to generate profits, and it is the measure most valued by investors.
Cash flows
The cash flow measures the ability of the company to generate cash. If the collections are higher than the payments in a certain period, the cash flow will be positive. Otherwise, it will be negative, and if the control of the treasury is not correct, we may not have the liquidity to meet our payment commitments.
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