Performance analysis

From CEOpedia | Management online

Financial performance analysis, which can also be referred to as financial statement or accounting analysis, "defines current state of a business, sub-business, company or project and helps asses its viability, stability and profitability"(D. Kissi 2016, p. 11). They are designed to show performance over certain time period. Most of the times such reports are prepared by authorized individuals who make reports basing on ratios and financial statements of a specific company known only to the top management.

Two key indicators of how a certain company is functioning in a specified time period are balance sheet and income sheet.

Purpose of analysis

Financial performance analysis are made to appease various informational needs. Main goal, however, is to help the management undertake key business decisions. There are multiple clients of those reports, because they have to live up to expectations on many fields. Group of users consists of:

  1. Management - as they need to make sure the enterprise is generating profits. Such group uses them to plan and control the business as reports provide excellent knowledge of the past states, to determine future goals and set budgets and evaluate future output. Key goal is also to assume whether employees deserve a rise in salary or a bonus. Important factor is to determine potential threats and unveil weakness of a company and evaluate which competitors constitute serious danger.
  2. Investors use such ratios to verify and decide whether to buy or sell shares of alike company or not. Information contained in performance analysis are crucial for them to determine expected profit or loss from a venture.
  3. "Financial analysts (including economists, statisticians, researchers and stockholders) advise their principals whether or not to buy or sell shares(...)"(L. C. Posthumus, N. Basson, P. Olivier 2000, ch. 1, p. 1-3). They help investigate current business state and give pieces of advice to their superiors basing on the reports in mention.
  4. Business contact groups - people like creditors need to have an ability to decide whether or not to continue their relationship with certain business. They are doing so by evaluating liquid assets, debt equity ratios or investigating other financial instruments. Customers are often willing to stay in contact with a certain company support team. Competitors, on the other hand, want to know how a certain company is doing on a market to ensure they are always step ahead.
  5. Government authorities use such reports to calculate taxes owed by a company to a country. Reserve bank needs those information to estimate the rate of inflation.
  6. Lenders use financial analysis to assess if the contractor would be able to pay outstanding amount on his account before it becomes due.
  7. Employees need to have clear information about their salaries and bonuses to feel safe and secure.

Targets of performance analysis

According to Kissi's(2016) definitions, financial analysts job is most often about providing calculations and assessments about:

  • Profitability - ability to generate money and sustain position on the market as a company noticing constant growth. "Degree of profitability is based on income statement, which reports on company's results of operations"(D. Kissi 2016, p. 13).
  • Solvency - ability to settle the payments for company's obligations on time.
  • Liquidity - capacity to sustain decent cash flow on a long-term.
  • Stability - capability to stay on the market on a long run. Both balance sheet and income sheet are helpful while assessing stability.

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Author: Kamil Ochmański