Senior High School

Fundamentals of
Accountancy Business and
Management 2 Quarter 1
–Module 5.1
Tools for Analysis of Financial
Statements including Horizontal and
Vertical Analysis

Writer:
BETHEL GRACE M. GUIAO
TIII SAN JUAN HIGH SCHOOL

Editors:
JANE P. VALENCIA, ED.D., EPS-Mathematics
NESSA B. DIMALANTA – Teacher II
VIENNAH MARIE M. BUSTOS Teacher II

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 What I Need to Know
This module was designed and written with you in mind. It is here to help you
master the subject Fundamentals of Accountancy, Business and Management II –
G12 particularly the Analysis and Interpretation of Financial Statements. The scope
of this module permits it to be used in many different learning situations. The language used
recognizes the diverse vocabulary level of students. The lessons are arranged to follow the standard
sequence of the course. But the order in which you read them can be changed to correspond with
the textbook you are now using.

The module will discuss about:

• Lesson 1 - The Tools for Analysis of Financial Statements including Horizontal and Vertical
Analysis for a Single Proprietorship Business.

After going through this module, you are expected to:

1. Define the measurement levels namely horizontal and vertical analysis 2. Perform horizontal
and vertical analysis of financial statements of a single proprietorship.

What I Know
PRE-ASSESSMENT. Choose the letter of the best answer. Write the chosen letter
on a separate sheet of paper.

1. Which shows the relationship of each part to the whole in a single financial statement?
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
2. This is to determine the direction/inclination in the industry
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
3. It narrates the connection between the numbers presented in the financial statement.
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
4. A tool that examines multiple years of financial statement to determine where the industry is
headed to.
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
5. Which of the following compares the financial statement of the same business for the current
year and past year to calculate the difference using a base year?
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis 1
6. Looking at the items below, tell what type of analysis was applied?
Amount Percent
Total Liabilities P360,000 60%
Owner’s Equity 120,000 40%
Total Liabilities and Owner’s Equity P600,000 100%

a. Financial Ratio Analysis c. Trend Analysis

b. Horizontal analysis d. Vertical Analysis

7. Listo Company reported the following net sales figures. If the base year is 2016, what is the
percent of increase for 2017.
2015 2016 2017
P300,000 P400,000 P600,000

a. 50% b. 100% c. 150% d. 200%

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 What’s In

8. Using the item in no.7, what type of analysis was shown by Lito Company?
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
9. Which of the following are techniques, tools or methods of analysis and interpretation of
financial statements?
a. Financial Ratio Analysis c. Vertical Analysis
b. Horizontal analysis d. All of the above
10.Which of the following statements are true?
A- Comparative financial statement is an example of horizontal
analysis.
B- Trend Analysis is an example of vertical analysis.
C- Vertical Analysis compares balances of financial statements
over a period of time
D- Vertical analysis compares balances of two accounts in one accounting period.
a) Both A and B c) Both B and C
b) Both A and D d) A, B, C, D

The four financial statements taken in the previous modules show the data collected from the
books of the company, with the purpose of reporting the financial aspects of the firm’s present
condition in terms of financial position, reveal the results of operation over a given accounting
period, cash flows and changes in equity. However, due to the continues need to monitor and
evaluate the performance of the company, relying on a report for a single year may not be enough.
To help management forecast about the company’s future operations, reports from the past and
present performances of the company are analyzed using financial analysis tools and techniques.

Draw the shapes that come next inside the last box.

What’s New

Can you tell what factors helped you decide on the shapes that you drew?

Company managers and other stakeholders make valuable decisions for the company. One
factor that helps them decide are the data given in the company’s financial statement. Knowing
and examining the past performance of the company can help provide insight as to what may
possibly happen in the future.

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 Notes to the Teacher

When learners hear the word analysis, they feel a little uneasy. Start
by providing them with situations they can relate to, like comparing
their previous general averages and planning for learning
adjustments on how they can do better in the future.

Before starting this module, the teacher should review the learner on
the components of the four major financial statements,namely,
Statement of Financial Position, Statement of Comprehensive Income,
Statement of Changes in Equity and Cash Flow Statement.

If you were offered by two candy companies to invest in them as an owner, but can only
afford to join in one company, which among these two companies do you think is a good choice to
invest in?

Columbia Bensons
ASSET P8,000,000 P10,000,000

NET INCOME Columbia Bensons

2015 P1,000,000 P1,000,000
2016 1,200,000 860,000
2017 1,350,000 720,000

1. Will it be Bensons, since it reported a higher asset in its Statement of Financial Position?

2. Given the data from the Statement of Comprehensive Income for the past three years,
which company should you invest in?

As a prospective owner, you should be interested in the return on your investment. You need
an evidence, on which among the two companies can really give better returns for your money.
Just by knowing the total asset of a company will not be sufficient.

What is It
To support owners, managers, prospective owners and other stakeholders in making
an important decision about a company, an analysis of the company’s financial statements is
prepared.

Financial Statement Analysis- is the process of evaluating the

strength and weaknesses of a business, the risks, performance, and
financial health by looking into the relationship between the
computation phase (figures) and interpretationphase (analysis).

This is to measure the company’s 3P’s: progress, position and

prospects, with the intension of making objective recommendations
and forecasts for the future of the company.

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Tools and Techniques

Oftentimes, management want to know whether the company is in good or bad health. The
question is, “How can we measure these conditions? To produce a more reliable information, we
have to put numbers on this so-called “health” to make it more objective and easier to compare.

The following tools and techniques utilize the statement of financial position and statement
of comprehensive income in making analyses.

1. Horizontal Analysis- is a comparison of the same account over two accounting periods
(current and past). It compares the performance of a company from one accounting period
to another.
Example:
2015 2016 *Growth of
Sales P210,000 P270,000 P60,000
The amount of Sales in 2015 may be compared to sales in 2016. This
comparison will allow the company to understand the movement of sales
(growth or decline) over the year.

2. Vertical Analysis- shows the relationship of each part to the whole in a single financial
statement. In vertical analysis all the items in a particular statement are represented
as a percentage of a particular item.

Example: The operating expenses or net profit may be represented as

percentage of sales. This will reveal any comparable increase or decrease in the
internal composition of a financial statement.

3. Trend Analysis- is used to reveal the direction of items with the

passage of time. It analyzes ratios of the different accounts of
the financial statements covering different periods to point the
trend and their causes for future projections.
4. Financial Ratio Analysis – describes the relationship between two numbers presented
in the financial statements. They can be expressed in terms of rate, percentages or a
proportion.
Performing Horizontal and Vertical Analysis
HORIZONTAL ANALYSIS

If you want to compare the current performance of a company from its performance in
previous years, horizontal analysis would be the right tool. Horizontal analysis is also
known as comparative analysis. Its purpose is to help management study the increases and
decreases in the performance of the company as reflected in the financial statements.
Using the table below, try to make an analysis of a company’s Sales account by
answering the following questions:

1. How does sales behave over time? Is it increasing, decreasing or not moving?
2. What is the percentage of change in the balances of Sales over time?

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 Horizontal analysis is simply computing the amount of change (increase/decrease) of
a specific account, then dividing the amount of the past year/base year to get the
percentage. Increases and decreases can be shown in terms of monetary value (amount in
peso) or percentages using the following formulas.

Step 1- To get the money value:

Amount of Change = Current year – Base Year
Amount of Change = P1,500,000 - P1,200,000
Amount of Change = P300,000

Step 2- To get the percentage of change.

Current year – Base Year
% of Change = X 100
Base year
P1,500,000 - P1,200,000
% of Change = X 100
P1,200,000
% of Change = 25%

But wait! It does not end there! The result of the horizontal analysis may guide the
management in developing forecasts or estimates and assess the rational of the targets. In
interpreting the result of horizontal analysis, it is also essential to consider the materiality of
the changes and should focus not only on internal factors, but also on the effect of outside
factors where management have no control.

In our illustration, we found that sales grew at an average of 25% per year. This
means that, if sales in 2016 is P1,000,000, and there are no changes in the economic
situations (external) and business operations (internal), the company can project a growth
in sale at P1,250,000= [ P1,000,000 + (P1,000,000 x 25%)] in 2017.
VERTICAL ANALYSIS
Vertical analysis is also known as common-size analysis. It is a tool that allows
proportionate examination of each components of a financial statement. In performing
vertical analysis, every line item on a financial statement is considered as a percentage of
another item (base amount). In simple terms, it is showing each account as part of a whole.

In the SFP, every account entered are considered as percentage of the total assets
(total assets = 100%), wherein each part of the asset account can be computed to determine
the composition of the whole assets, on the other hand, the company’s financing mix can
also be determined by the percentage of assets financed by liabilities and owner’s equity.
To illustrate, using the SFP asset portion of Mikas Company, perform a vertical
analysis by completing the table and answering the questions below.

1.Of the total assets, what percent is current assets for 2016 and 2017?

2. Of the total assets, what percent is accounts receivable for 2016 & 2017?

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 Questions to think about:
🗹 What could be the possible reason for the increase of total current assets?
🗹Can you say that Mika’s company is good in handling accounts receivable?

But wait! It does not end there! The result of the vertical analysis for SFP may
guide the management in making a comparison on the difference in percentages
and the possible reasons behind them. In the case of Mika’s Company, what
company policy do you think has to be revisited and strengthened?

In the SCI, every line item is expressed in terms of the percentage of net sales (net
sales = 100%). In this way, the management will have a picture of how money from sales is
being spent by various expenses. Bottomline, the net income is the remaining portion of the
sales not consumed by expenses.

What’s More

To illustrate, using the SCI of J.Mark Trading Company, perform a vertical

analysis and answer the questions below on a separate sheet:

1.What percentage of net sales is cost of goods sold for 2016 and 2017? 2.
What is the percentage of net income to sales for both years?

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 Questions to think about:

🗹 What could be the possible reason why operating expenses take more from sales
than cost of goods sold?

🗹 Looking at the percentage of net income to sales, was there an improvement in

the company’s performance from 2016 to 2017?

But wait! It does not end there! The result of the vertical analysis for SCI may
provide the management necessary data in making adjustments in terms of
controlling its costs and expenses in order to generate higher net income from
sales. In the case of J. Mark Trading Company, what account do you think needs
cost adjustment in order to maximize company profits?

Perform the indicated instructions.

Activity 1. TRUE or FALSE. Use separate sheet.
__________ 1. If you compare the Net Income of a company for 2014 and 2015, then you are
doing a vertical analysis.
__________ 2. There are two phases involved in analyzing financial statements, that is
computation and analysis.
__________ 3. Use trend analysis if you want to see the direction of the company’s
performance over the passage of time.
__________ 4. Horizontal analysis can be performed with Statement of Financial Position and
Statement of Comprehensive income.
__________ 5. One-year data is sufficient to evaluate the condition of a company.

Activity 2: The following information were taken from the Statement of Financial
Position of Pure Buds Company.

Required:
1. Perform horizontal analysis for 2019 using 2018 as base year.
2. Perform vertical analysis for 2019 and 2018 SFP.

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Activity 3: The following are the accounts taken from the books of Sunrise Trading
Company for the month of December. Perform a Horizontal and Vertical Analysis for the
company and answer the following questions:

Sunrise Trading Company

Comparative Statement of Comprehensive Income
For the year ended December 31
2014 2013
Sales P850,000 820,000
Cost of Goods Sold (460,000) (600,000)
Gross Profit P390,000 P220,000
Operating Expenses (180,000) (170,000)
Net Income 210,000 50,000

1. Compute the percent of change for sales from 2013 to 2014? __________
2. Compute the amount of change for COGS from 2013 to 2014? __________
3. What percent of change was seen for COGS from 2013-2014? __________
4. What percentage of Net sales is the net income for 2013? __________
5. What is the percentage of Operating expenses to net sales for 2014? __________

What I Have Learned

KEYWORDS: Fill in the blanks with the missing words.

Financial Statement Analysis measures the strength and weakness of a
company’s condition using the two phases, namely:
a. Computation phase; and b. interpretation phase

Common tools used for financial statement analysis

a. _______________- it involves comparing the same account in the financial
statement over two accounting periods (current and past) by computing the
amount of change with comparison to the base year.
b. _______________- shows the relationship of each part to the whole in a single
financial statement. In the SFP, each item are expressed as percentage of asset
and total liabilities & owner’s equity. In the SCI, each item is presented as a
percentage of net sales.

c. _______________- is used to reveal the direction of items with the passage of time
(three to five years).

d. ________________ – describes the relationship between two numbers presented

in the financial statements. They can be expressed in terms of rate,
percentages or a proportion.

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 What I Can Do

I. Prepare a horizontal and vertical analysis for Faithful John Merchandising .

1. Compute the percent of change for COGS __________

2. Compute the amount of change for GROSS PROFIT __________
3. What percent of change was seen for NET INCOME? __________
4. What percentage of Net sales is the COGS for 2016? __________
5. What is the percentage of NET INCOME to NETSALES for 2017? __________

Assessment
ASSESSMENT
I. MULTIPLE CHOICE: Read the statements carefully and write your
answer on the blanks provided.
(For numbers 1 to 5)
Happy Hands Merchandising
Statement of Comprehensive Income
For the year ended December 31, 2015
Sales P104,705
Cost of Goods Sold (32,275)
Gross Profit P69,430
Selling Expenses (35,325)
Administrative Expenses (12,815)
Operating Income P21,290
Interest Expense (1,050)
Net Income P20,240

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1. The horizontal analysis of Happy’s 2015 SFP would report:
a. Cash as 9.50% of total assets.
b. 17% increase in Prepaid Expenses.
c. 19% increase in Cash.
d. All of the above
2. The vertical analysis of Happy’s 2015 SFP would report:
a. Cash as 9.50% of total assets.
b. 17% increase in Prepaid Expenses.
c. 19% increase in Cash.
d. All of the above
3. A common-size SCI for Happy would report (amounts rounded):
a. Net income of 19%. c. Sales of 100%.
b. Cost of sales at 34%. d. All of the above
4. A common-size SFP for Happy would report (amounts rounded):
a. Current liabilities as 28% of total assets.
b. Owner’s capital is 53% of total liabilities and equity
c. Receivables is 7% of total liabilities and equity
d. All of the above
5. Horizontal analysis will show which of the following?
a. 15% increase in Current Liabilities.
b. 33% increase in Owner’s Capital.
c. 19% increase in Long Term Liabilities
d. All of the above
6. If current assets are ₱270,000 and total assets are ₱810,000, what percentage of total
assets are current assets?
a. 3.5 percent b. 30 percent c. 25 percent d. 33 percent
7. Comparing the amount of a balance sheet item in one year to the amount for the
same item in a prior year is called
a. common-size analysis. c. horizontal analysis.
b. vertical analysis. d. ratio analysis.
8. A firm has liabilities of ₱30,000 and owner’s capital of ₱90,000. The percentage of total
liabilities to total assets is:
a. 25 percent b. 20 percent c. 50 percent d. 75 percent
9. Calculating the different parts of a financial statement in terms of a percentage of the
total amount, is doing a _____.
a. Financial Ratio Analysis c. Trend Analysis
b. Horizontal analysis d. Vertical Analysis
10. If long-term liabilities are ₱300,000 and total assets are ₱2,100,000, what
percentage of total assets are long-term liabilities?
a. 7 percent b. 16.7 percent c. 12.5 percent d. 14.3 percent
ASSESSMENT II. The data of Z.A.N.E. Trading are given below:

Requirements:
a. Prepare a vertical analysis for Z.A.N.E. Trading.
b. Prepare a horizontal analysis for Z.A.N.E. Trading.

Additional Activities

This is an optional activity!

To enhance your 21st century skills, practice using MS Excel to perform the
horizontal and vertical analysis of Z.A.N.E. Trading.

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Answer Key

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