Since horizontal analysis is expressed in percentage change over time, it is often confused with vertical analysis. The two are entirely different with the primary difference between them being that horizontal examines the relationship between numbers across various periods and vertical analysis is only concerned with a single period. For example, let us assume that we are interested in comparing gross sales of a business quarter-over-quarter for the last year. Using the financial statements, we could take the gross sales from the first quarter as our beginning period’s value. Horizontal analysis is the use of financial information over time to compare specific data between periods to spot trends. This can be useful because it allows you to make comparisons across different sets of numbers.
If this is the case, you need to address and solve the problem or the company’s reputation and future may be at stake. For a business owner, information about trends helps identify areas of wide divergence. Vertical Analysis – compares the relationship between a single item on the Financial Statements to the total transactions within one given period. The analysis assumes that everything outside will more or less stay the same. This means that future projections don’t take into account possibilities like new technologies, changes in regulations, and/or new competitors disrupting the space.
Cost Structure → At the end of the day, the reinvestment needs of a company is directly tied to the industry it operates within. For that reason, the amount of capital needed on hand to fund day-to-day working capital needs and capital expenditures , i.e. the purchase of long-term fixed assets, varies widely across industries. Long story short, the “common size” financial statements are only informative if the companies being compared as similar in nature in terms of the business model, target customer profile, end markets served, etc. The primary difference between vertical analysis and horizontal analysis is that vertical analysis is focused on the relationships between the numbers in a single reporting period, or one moment in time.
Columns and in Exhibit 133 express the dollar amount of each item in Columns and as a percentage of total assets or equities. For example, although other assets declined USD 6.3 million in 2010, the decrease of 1.4 per cent in the account represents only approximately 4.8 per cent of total assets and, therefore, probably does not have great significance. Vertical analysis also shows that total debt financing decreased from 78.0 per cent of total equities (liabilities and stockholders’ equity) in 2009, to 74.3 per cent in 2010. At the same time, the percentage of stockholder financing to total assets of the company increased from 22.0 per cent to 25.7 per cent. This is because vertical analysis expresses each line in the financial statements as a percentage of a base value, like sales. Using this example, vertical analysis takes the income statement and expresses every line item as a percentage of sales, whereas horizontal analysis is concerned with the percentage change in total sales over a period.
A horizontal analysis is performed by comparing two or more financial statements from different periods of time. This type of analysis can be used to identify trends in financial data, assess the impact of changes in business operations, and make better informed decisions about the future. Horizontal analysis is a financial tool used to compare financial statements of two or more years.
Depending on their expectations, Mistborn Trading could make decisions to alter operations to produce expected outcomes. For example, MT saw a 50% accounts receivable increase from the prior year horizontal analysis to the current year. If they were only expecting a 20% increase, they may need to explore this line item further to determine what caused this difference and how to correct it going forward.
The quality of the analysis of “what gets measured” will then define the success of the action plans designed to “get it managed”. In this post and the next we will describe the two most widely known methods to analyze financial data – horizontal and vertical analysis – and provide examples to clarify their uses and calculations. Finally, because horizontal analysis relies on the financial statements it is subject to the nuances of accounting policies that might not paint an accurate picture of the business’s actual performance over time.
Based on historical data, a horizontal analysis interprets the change in financial statements over two or more accounting periods. It denotes the percentage change in the same line item of the next accounting period compared to the value of the baseline accounting period.
Example of Horizontal Analysis
To calculate the percentage change, first select the base year and comparison year. Subsequently, calculate the dollar change by subtracting the value in the base year from that in the comparison year and divide by the base year. The result is then multiplied by 100.