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Comparative financial analysis compares financial data from different reports to provide context and meaning. It can be used to spot trends, evaluate a company’s progress, and compare companies within an industry. Financial ratios and industry benchmarks are often used in this analysis.
Comparative financial analysis is the process of analyzing the data found in one financial report in comparison with similar data from other reports. This allows whoever is doing the analysis to get context that makes the raw numbers more meaningful. An individual can do comparative financial analysis by studying various reports from the same company from different time periods in an effort to spot trends. Another way to practice this type of analysis is to compare the reports of different companies that compete with each other in the same industry.
There are several different reasons why an individual would want to analyze the financial data of certain companies. Investors look at financial reports as a way to determine how they should invest their capital. In addition, management within a company can study their own reports to see how well the company is doing and whether any changes need to be made. Simply studying raw data may be meaningless without some comparisons to provide useful context, which is why this analysis is so helpful.
As time passes and companies age, their numbers may reflect their changing financial situation. Since this is the case, comparative financial analysis can be used to study those changes and see if the company is trending up or down. Looking at reports from various past periods and comparing those numbers to the numbers for the current period can shed a lot of light on a company’s progress, or lack thereof.
There are also times when it can be useful to see how a company is doing against its competitors. For this, comparative financial analysis within a specific industry is effective. This method of analysis is often used in conjunction with financial ratios, which are metrics that can be used to measure debt levels, efficiency, cash flow, and many other pertinent aspects of a company’s operations. These ratios mean little by themselves, but their relationship to the ratios of similar companies can say a lot about financial strength.
When performing comparative financial analysis within an industry, the choice of which set of numbers to use as the basis for comparison is important. One way to do this, again using financial ratios, is to get the industry averages for these ratios and use these numbers as a way of judging a company within the industry. Since averages can be difficult to locate and cumbersome to calculate, comparative analysis can be accomplished by using the ratios of a single financially strong company as an industry benchmark, against which the ratios of all other companies can be compared. .
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