The change can be explained by a decline in the proportion of revenue compared to sales volume. However, the increase in operating margin proportion can signal the increased amount of profit generated for each dollar in the revenue. Next, the horizontal analysis of Pfizer’s revenue through the period from 2018 to 2021 shows an almost double increase in revenues from $ million to $ million (Macrotrends, 2022). However, the data for the cost of goods sold shows a drastic increase from $8 484 to $30 821, confirming the vertical analysis information.

You can analyze multiple periods separately, then do a horizontal analysis to look for trends. If you already use templates for your financial statements, it’s easy to include the formulas for vertical analysis by adding columns or a new section. These are simplified examples, but they should give you an idea of how vertical and horizontal analyses work. Both types of analyses provide valuable insights about a company’s financial health, but from different perspectives.

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The difference between vertical analysis and horizontal analysis is that vertical analysis analyzes the relationship of different accounts within one… The comparison between the two ratios indicates that despite the rise in both revenue and cost of sales, the gross profit has changed only marginally. The example from Safeway Stores shows https://www.bookstime.com/articles/vertical-and-horizontal-analysis a comparative balance sheet for 2018 and 2019 following a similar format to the income statement above. Using the comparative income statement above, you can see that your net income changed by $1,500 from 2017; a percentage increase of 5.3%, but what really stands out on the income statement is the 266% increase in depreciation expense.

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. You can analyze financial statements using multiple methods, including horizontal and vertical analysis. Horizontal analysis studies changes to variables over time, using historical data to predict future trends. Vertical analysis, however, studies the proportions of the total amount represented by the different variables during a single period. Horizontal analysis refers to the comparison of financial information such as net income or cost of goods sold between two financial quarters including quarters, months or years.

Horizontal analysis helps you spot trends

If owner’s equity is $240,000 it will be shown as 60% ($240,000 divided by $400,000). The vertical analysis of the balance sheet will result in a common-size balance sheet. The percentages on a common-size balance sheet allow you to compare a small company’s balance sheets to that of a very large company’s balance sheet. A common-size balance sheet can also be compared to the average percentages for the industry. 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.

• Both horizontal and vertical analysis each have a role to play in a company’s financial management, business process management, and overall strategic and competitive planning.
• The process of comparing data points over time obviously requires at least two data sets to be available.
• By dividing the net difference by the base figure, the percentage change comes out to 25%.
• To compete effectively and strategically, it’s important for businesses of all sizes to make use of the tools at their disposal.
• If the change between two dates is an increase from 2009 to 2010, the change is a positive figure.

This type of question guides itself to selecting certain horizontal analysis methods and specific trends or patterns to seek out. Financial statement analysis is the process of analyzing a company’s financial statements for decision-making purposes. External stakeholders use it to understand the overall health of an organization and  to evaluate financial performance and business value. Conceptually, the premise of horizontal analysis is that tracking a company’s financial performance in real time and comparing those figures to its past performance (and that of industry peers) can be very practical.

Analysis and Interpretation of Financial Statements

Horizontal analysis looks at amounts from the financial statements over a horizon of many years. The amounts from past financial statements will be restated to be a percentage of the amounts from a base year. Vertical analysis is a financial statement analysis technique that compares each line item on a statement to a specific percentage of the total amount for that https://www.bookstime.com/ category. The most obvious benefit of horizontal analysis is that helps paint a picture of how a business has performed over time. Trends are used when projecting future performance and analysts use them to identify where they believe the business is within the business cycle. The component of “time” in financial statement analysis holds a great deal of weight.

The restated amounts result in a common-size income statement, since it can be compared to the income statement of a competitor of any size or to the industry’s percentages. Vertical analysis is a way to compare each line item on a financial statement to some percentage of the total for that category. Financial statements should be prepared in a standard vertical format in accordance with accounting standards.

Differences between Horizontal and Vertical Analysis

With different bits of calculated information now embedded into the financial statements, it’s time to analyze the results. The identification of trends and patterns is driven by asking specific, guided questions. For example, upper management may ask “how well did each geographical region manage COGS over the past four quarters?”.

In this post, we will cover what horizontal analysis is, how it works, how it is different from vertical analysis, and its limitations. Horizontal analysis is the comparison of historical financial information over a series of reporting periods. It is used to see if any numbers are unusually high or low in comparison to the information for bracketing periods, which may then trigger a detailed investigation of the reasons for the difference. You can choose whatever interval (month-over-month, year-over-year, etc.), but each iterative financial statement should be equal distance away regarding when it was issued compared to other bits of financial information. Per usual, the importance of completing sufficient industry research cannot be overstated here. In each industry, market participants attempt to solve different problems and encounter various obstacles, resulting in financial performance that reflects a given industry’s state.

Up, Down, and All Around, Financial Analysis Helps Your Company Succeed

You now know about the vertical analysis of financial statements and how it differs from the horizontal analysis. You know how to do a vertical analysis with Excel and Google Sheets, using both an income statement and a balance sheet. Horizontal Analysis measures a company’s operating performance by comparing its reported financial statements, i.e. the income statement and balance sheet, to the financial results filed in a base period.

For instance, instead of creating a balance sheet or income statement for one specific period of time, you would also create a comparative income statement or balance sheet that covers quarterly or annual activity for your business. Also like horizontal analysis, vertical analysis can be useful in external as well as internal analysis. Two companies with vastly different financial profiles (e.g., a $10 million company and a $10 billion dollar international corporation) can still be meaningfully compared by reducing their financials to percentages. As a result, some companies maneuver the growth and profitability trends reported in their financial horizontal analysis report using a combination of methods to break down business segments. Regardless, accounting changes and one-off events can be used to correct such an anomaly and enhance horizontal analysis accuracy.

To calculate vertical analysis, you will need to know the total revenue figure for the income statement. 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. Then, we would find the difference between the second quarter’s gross sales and the first. We repeat this process for the third quarter, calculating the difference between this and the second quarter until we have compared all four quarters. For example, let us assume that we are interested in comparing gross sales of a business quarter-over-quarter for the last year.

• From 2021 to 2020, we’ll take the comparison year (2021) and subtract the corresponding amount recorded in the base year (2020).
• Therefore, analysts and investors can identify factors that drive a company’s financial growth over a period of time.
• Using the comparative income statement above, you can see that your net income changed by $1,500 from 2017; a percentage increase of 5.3%, but what really stands out on the income statement is the 266% increase in depreciation expense.
• This percentage method is most useful when identifying changes over a longer period of time where there may be significant deviations from the base period to the current period.
• Since cost of goods sold increased by a much smaller amount (USD 117.6 million), gross profit increased by USD 351.4, or 7.3 per cent.