Horizontal Analysis

When you’re looking at financial statements, horizontal analysis is a method used to review historical data from different accounting periods. This helps to spot trends and changes over time. You can compare the data using absolute numbers or percentages. In percentage comparisons, each period’s data is shown as a percentage of a base year, which is set at 100%. This is also known as base-year analysis.

How horizontal analysis works

Horizontal analysis is a great way to see how a company's financial performance has changed over time. By comparing changes in various financial items, you can identify trends and predict future performance. This analysis looks at the income statement, balance sheet, and cash flow statement over several periods to provide a clear picture of what drives a company's success and efficiency.

Further reading: How to automate your bookkeeping with AI?

Example of horizontal analysis

Let’s break down how to do a horizontal analysis with an example:

  1. Choose Your Years: Pick a base year and a comparison year.
  2. Calculate Dollar Change: Subtract the base year amount from the comparison year amount.
  3. Calculate Percentage Change: Divide the dollar change by the base year amount, then multiply by 100.

Formulas:

Horizontal analysis percentage:

Amount in comparison year - Amount in the base year / Amount in base year X 100

Horizontal analysis dollars:

Amount in Comparison Year − Amount in Base Year

Horizontal vs. vertical analysis

Horizontal analysis:

  • Looks at changes in account balances over time, line by line.
  • Compares results from different periods.
  • It helps management make better strategic decisions.

Vertical analysis:

  • Focuses on the importance of specific accounts within a single period.
  • Adjusts account balances to proportional percentages.
  • Used by creditors and investors to evaluate a company's financial health and risk.

Here is a fun fact about horizontal analysis

Did you know that horizontal analysis is sometimes referred to as "trend analysis"? This is because it allows companies to spot trends and patterns over time, much like how a detective uncovers clues to solve a mystery. 

By examining financial data across multiple periods, businesses can identify growth trajectories and seasonal patterns, helping them to make more informed decisions and forecast future performance. 

Using horizontal analysis makes you a financial detective, solving the mystery of your company's financial health.

Similar reading: An in-depth manual on outsourcing back office functions.

Conclusion

Horizontal analysis is a helpful tool for examining a company's financial statements over several periods. It typically shows a percentage increase or decrease from the base year. 

This method helps you quickly spot trends and growth patterns, giving insight into a company’s progress and financial position compared to competitors. Just be cautious—choosing periods of underperformance can make the current period look better than it actually is.

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