Comparative Statement of Profit and Loss of BCR Co. Ltd.

for the years ended March 31, 2020 and 2021

Interpretation:

The analysis shows that while Total Revenue increased by 23.90%, the Expenses increased at a slower rate of 15.00%. This efficient cost management led to a significant increase in Profit Before Tax by 46.29%. Although the tax expense grew at a faster rate due to a higher tax rate, the final Profit After Tax still showed a healthy growth of 35.03%.

Comparative Balance Sheet of J. Limited

as at March 31, 2020 and March 31, 2021

Interpretation:

The company has expanded its operations, as indicated by the 29.63% increase in total assets. This expansion was financed by raising additional share capital (+33.33%) and long-term borrowings (+50.00%). The increase in Property, Plant and Equipment suggests investment in productive capacity. While cash has increased by 50%, there is a notable decrease in inventories (-25%) and reserves and surplus (-25%), which may require further investigation.

Common-Size Statement of Profit and Loss

for the years ended March 31, 2020 and 2021

Interpretation:

Although the absolute profit before tax remained the same at $\text{₹} \ 4,00,000$ in both years, the common-size statement reveals a decline in profitability. The profit margin (Profit before Tax as a percentage of Revenue from Operations) has decreased from 40% in 2019-20 to 32% in 2020-21. This is because the total expenses as a percentage of revenue increased from 75% to 76%, and other income as a percentage of revenue decreased from 15% to 8%.

Common-Size Balance Sheet of XRI Co. Ltd.

as at March 31, 2020 and March 31, 2021

Interpretation:

The common-size balance sheet reveals changes in the financial structure despite a decrease in the company's overall size (total assets decreased). In 2021, the company relied more on internal funds (Shareholders' funds increased from 48.19% to 52.30% of the total) and less on short-term credit (Trade Payables decreased from 37.35% to 32.32%). On the asset side, the proportion of Property, Plant and Equipment has decreased (from 69.88% to 61.54%), while the proportion of Non-current Investments and Inventories has increased, indicating a shift in the company's asset composition.

Analysis simply means simplification of data.

Explanation: Financial analysis involves breaking down complex financial data into simpler, more manageable components. The process includes classifying, grouping, and rearranging data to highlight relationships and make it easier to understand.

Interpretation means explaining the meaning and significance of the data.

Explanation: Interpretation is the step that follows analysis. It involves drawing conclusions and making judgments about the financial performance and position of a business based on the simplified (analyzed) data. It answers the "so what?" question about the numbers.

Comparative analysis is also known as horizontal analysis.

Explanation: In comparative analysis, financial data from two or more consecutive accounting periods are placed side-by-side to analyze the trend. Since the comparison moves across columns (from one year to the next), like reading along a horizontal line, it is called horizontal analysis.

Common size analysis is also known as vertical analysis.

Explanation: In common size analysis, each item in a financial statement for a single period is expressed as a percentage of a common base figure from that same statement (e.g., Revenue from Operations for the P&L statement). Since the analysis moves up and down the items within a single column, it is known as vertical analysis.

The analysis of actual movement of money inflow and outflow in an organisation is called cash flow analysis.

Explanation: Cash flow analysis is specifically concerned with tracking the sources (inflows) and uses (outflows) of cash and cash equivalents over a period. The primary tool for this is the Cash Flow Statement, which categorizes these movements into operating, investing, and financing activities.

A Comparative Statement of Profit and Loss is a tool of financial analysis that shows the operating results of a business for two or more accounting periods side-by-side. It helps in identifying the trend and direction of performance by showing the absolute and percentage change in each line item.

Note: As per Schedule III of the Companies Act, 2013, Provision for Tax is shown as 'Tax Expense' after calculating 'Profit before tax'. Therefore, it has been excluded from 'Other Expenses' and shown separately in the statement below. The final profit figures provided in the question are inconsistent with the expense data; hence, the profit has been recalculated based on the given components.

Comparative Statement of Profit and Loss of Narang Colours Ltd.

for the years ended March 31, 2016 and 2017

A Comparative Balance Sheet is a tool that shows the financial position of a business on different dates side-by-side. It facilitates comparison by showing the absolute increase or decrease and the percentage change for each item on the balance sheet.

Note: The figures for assets in the provided question appear to be swapped between the years 2016 and 2017, as the totals do not match the liabilities. The following solution has been prepared after correcting this apparent error to ensure the balance sheets for both years tally.

Comparative Balance Sheet of Omega Chemicals Ltd.

as at March 31, 2016 and 2017

(in Lakhs of Rs.)

A Common Size Balance Sheet is a statement where each item of the balance sheet is expressed as a percentage of the total of assets (or total equity and liabilities). This form of vertical analysis helps in understanding the internal structure of the company's financial position and comparing it over different periods or with other companies.

Formula: $\text{Percentage} = (\frac{\text{Individual Item Amount}}{\text{Total Assets or Total Equity & Liabilities}}) \times 100$

Common Size Balance Sheet of Raj Co. Ltd.

as at March 31, 2016 and 2017

The correct option is (d) All the above.

Explanation: As per Section 2(40) of the Companies Act, 2013, a complete set of financial statements includes the Balance Sheet, Statement of Profit and Loss, and the Cash Flow Statement, along with notes to accounts.

The correct option is (d) All the above.

Explanation: Horizontal analysis (comparative statements), vertical analysis (common-size statements), and ratio analysis are all widely used and important tools for analyzing a company's financial statements.

The correct option is (c) Shareholders.

Explanation: An annual report is a comprehensive report on a company's activities throughout the preceding year. It is primarily intended to give shareholders and other interested people information about the company's activities and financial performance.

The correct option is (a) At a point in time.

Explanation: A Balance Sheet is a snapshot of a company's financial health, showing its assets, liabilities, and equity on a specific date (e.g., "as at March 31, 2017"). It does not show transactions over a period, which is the function of the Statement of Profit and Loss.

The correct option is (b) Horizontal analysis.

Explanation: Comparative statements place financial data for two or more periods side-by-side to analyze the trend. Since the comparison is made across columns from left to right (horizontally), it is known as horizontal analysis.

(a) True

Reason: As per the Companies Act, 2013, a complete set of financial statements includes the Balance Sheet, Statement of Profit and Loss, and a Cash Flow Statement.

(b) True

Reason: Comparative statements analyse financial data over two or more periods side-by-side, which is a form of horizontal (or trend) analysis.

(c) False

Reason: Common size statements are a tool of vertical analysis. However, ratio analysis is a separate and distinct tool of financial analysis, not a part of vertical analysis.

(d) False

Reason: Ratio analysis establishes relationships between various items or groups of items within the financial statements, not between the statements themselves. Some ratios use items from a single statement, while others use items from both.

(e) True

Reason: Ratio analysis is a universally accepted technique used to evaluate the financial performance (profitability, efficiency) and position (liquidity, solvency) of any business enterprise.

(f) False

Reason: Financial analysis is used by a wide variety of stakeholders, including management, shareholders, investors, government, employees, and researchers, not just creditors.

(g) True

Reason: The Statement of Profit and Loss summarises revenues and expenses for a specific accounting period to determine the profit or loss, thereby reflecting the enterprise's performance over that period.

(h) True

Reason: The primary purpose of financial analysis is to simplify and interpret financial data to provide insights that help users make informed economic decisions.

(i) False

Reason: A Cash Flow Statement is a component of the financial statements, not a tool for their analysis. The analysis of the cash flow statement is a tool, but the statement itself is part of the data being analysed.

(j) True

Reason: This is the definition of a common-size statement. For a balance sheet, the base is Total Assets, and for a statement of profit and loss, the base is Revenue from Operations.

The main techniques or tools of Financial Statement Analysis are:

1. Comparative Statements: Presenting financial statement data for two or more periods side-by-side to analyze trends. This is also known as horizontal analysis.

2. Common-Size Statements: Expressing each item in a financial statement as a percentage of a common base, such as total assets or total revenue. This is also known as vertical analysis.

3. Ratio Analysis: Calculating and interpreting various ratios to assess profitability, liquidity, solvency, and efficiency.

4. Trend Analysis: Analyzing the trend of key financial ratios or items over a number of years to forecast future performance.

5. Cash Flow Analysis: Analyzing the inflows and outflows of cash through a Cash Flow Statement to assess the liquidity and solvency of the enterprise.

The distinction between Vertical and Horizontal Analysis is as follows:

Analysis and Interpretation are two distinct but interconnected steps in the process of financial statement analysis.

Analysis:

Financial analysis refers to the process of simplifying and systematically classifying the complex data presented in the financial statements. It involves breaking down the financial information into simpler, more manageable components and establishing relationships between them using various tools like ratio analysis, comparative statements, and common-size statements. The primary goal of analysis is to make the data understandable.

Interpretation:

Interpretation is the process of explaining the meaning and significance of the analyzed financial data. It is the art of drawing conclusions, making judgments, and forming opinions about the financial performance and position of the business. While analysis provides the "what", interpretation provides the "so what" and "why". It is the critical final step that translates the numbers into a meaningful narrative for decision-making.

Financial analysis is of immense importance as it converts complex financial data into meaningful information for decision-making by various stakeholders. Its key points of importance are:

• Assessing Financial Health: It helps in evaluating a firm's liquidity (ability to meet short-term obligations) and solvency (ability to meet long-term obligations), thus providing a clear picture of its overall financial health.

• Evaluating Profitability: It allows users to assess the earning capacity and operational efficiency of the business by analyzing profitability ratios and trends over time.

• Facilitating Managerial Decisions: Management uses financial analysis to identify areas of strength and weakness, make informed decisions, exercise control over operations, and formulate future strategies.

• Assisting Investors: It helps investors in making rational decisions about buying, holding, or selling a company's shares by providing insights into its performance and future prospects.

• Guiding Creditors: It enables lenders and suppliers to determine the creditworthiness of a firm and its ability to repay debts, which is crucial for granting loans or extending credit.

• Simplifying Complex Data: Financial analysis simplifies and summarizes a large volume of accounting data into a few key metrics and trends, making it easier for users to understand and interpret.

Comparative Financial Statements are statements that present the financial data of a business for two or more consecutive accounting periods in a side-by-side format. The primary purpose is to facilitate comparison and identify trends in the company's financial performance and position over time.

These statements typically show:

1. Absolute figures for the current and previous periods.
2. The absolute change in these figures (increase or decrease).
3. The percentage change in these figures.

The two main types are the Comparative Balance Sheet and the Comparative Statement of Profit and Loss. They are a tool of horizontal analysis.

Common Size Statements are financial statements in which each item is expressed as a percentage of a common base figure. This helps in understanding the proportional significance of each component within the financial statement and is useful for comparing companies of different sizes or for analysing the internal structure of a single company over time.

The key features are:

• In a Common Size Balance Sheet, each asset is expressed as a percentage of Total Assets, and each item of equity and liability is expressed as a percentage of Total Equity and Liabilities.

• In a Common Size Statement of Profit and Loss, each item of expense or income is expressed as a percentage of Revenue from Operations (or Net Sales).

They are a tool of vertical analysis.

Techniques of Financial Analysis

Financial analysis uses various techniques to evaluate a company's financial performance and position. The principal techniques are:

1. Comparative Financial Statements: Also known as horizontal analysis, this technique involves comparing financial statement data for two or more consecutive periods. By showing the absolute and percentage changes, it helps in identifying the direction and trend of the business's performance.

2. Common-Size Financial Statements: Also known as vertical analysis, this technique expresses each line item of a financial statement as a percentage of a common base. For the Balance Sheet, the base is Total Assets; for the Statement of Profit & Loss, it is Revenue from Operations. It is useful for understanding the internal structure of the financial statements and for comparing companies of different sizes.

3. Ratio Analysis: This is a quantitative analysis of information contained in a company's financial statements. Ratios are calculated to evaluate various aspects of a company's operating and financial performance such as its liquidity, solvency, profitability, and efficiency.

4. Trend Analysis: This involves analyzing the trend of key financial items or ratios over a series of years (typically five or more). By selecting a base year and expressing subsequent years' figures as a percentage of the base year, analysts can spot significant long-term trends and patterns.

5. Cash Flow Analysis: This involves the analysis of the Cash Flow Statement, which shows the inflows and outflows of cash from operating, investing, and financing activities. It is a crucial tool for assessing the liquidity and solvency of an enterprise.

Limitations of Financial Analysis

While financial analysis is a powerful tool, it has several inherent limitations:

• Historical Nature: Financial analysis is based on historical data from past financial statements. It does not provide a direct forecast of future performance, which may be influenced by different factors.

• Ignores Qualitative Factors: The analysis is purely quantitative and ignores important non-monetary factors like the quality of management, employee morale, brand reputation, and industry conditions, which are critical to a company's success.

• Affected by Accounting Policies and Judgements: The financial data itself is a product of accounting conventions and personal judgments (e.g., choice of depreciation method, inventory valuation). Different policies can lead to different results, making comparisons between firms difficult.

• Impact of Price Level Changes: Financial statements do not account for inflation, which can distort the financial results. For example, profits may appear to be increasing, but in real terms (after adjusting for inflation), they might be declining.

• Window Dressing: The analysis can be misleading if the underlying financial statements have been manipulated by the management to present a better-than-actual picture of the firm's financial health.

• Lack of Standard Definitions: Some terms and ratios do not have universally accepted definitions (e.g., what constitutes 'operating profit'). This can lead to inconsistencies in analysis.

Trend percentages, also known as index analysis, are a technique of financial analysis used to study the movement and direction of various financial items over a number of years. It involves selecting a base year and expressing the values of all items in subsequent years as a percentage of their value in the base year.

$\text{Trend Percentage} = \frac{\text{Current Year's Value}}{\text{Base Year's Value}} \times 100$

The usefulness of trend percentages in interpreting financial performance is significant, as explained below:

1. Long-Term Perspective: Unlike comparative statements that typically compare only two years, trend analysis provides a long-term view of a company's performance, usually over five to ten years. This helps in identifying more stable and reliable trends rather than being misled by short-term fluctuations.

2. Identifying Direction of Change: By looking at the trend percentages, an analyst can easily see whether key items like sales, costs, and profits are increasing, decreasing, or remaining stagnant over the long run. This helps in assessing the growth trajectory and stability of the company.

3. Comparative Analysis of Different Items: Trend percentages allow for a meaningful comparison of the relative change in different items. For example, an analyst can compare the trend percentage of sales with the trend percentage of the cost of goods sold. If the cost percentage is rising faster than the sales percentage, it indicates a decline in gross profit margin and potential inefficiency.

4. Forecasting and Planning: The study of past trends provides a solid basis for forecasting future performance. Management can use this information for better planning, budgeting, and strategic decision-making.

5. Highlighting Problem Areas: A negative or stagnant trend in a crucial area (like a declining trend in sales or a rapidly increasing trend in operating expenses) can quickly highlight problem areas that require management's attention.

In conclusion, trend analysis is a powerful tool that transforms absolute financial data into a dynamic picture of a company's performance over time, making it invaluable for interpretation and forecasting.

Importance of Comparative Statements

Comparative financial statements are statements that present the financial data of a business for two or more consecutive accounting periods in a side-by-side format. They are a tool of horizontal analysis and are highly important for the following reasons:

• Makes Data Comparable: By presenting figures for multiple periods together, they make it easy to compare the company's performance and position over time.

• Identifies Trends: They help in identifying the direction and trend of key financial items. For example, a user can see if sales are consistently growing or if expenses are rising at an alarming rate.

• Highlights Strengths and Weaknesses: Significant changes, both positive and negative, are highlighted through the calculation of absolute and percentage changes. This helps management and other stakeholders to pinpoint areas of strength and weakness.

• Facilitates Forecasting: The trend revealed by comparative statements provides a basis for forecasting future performance and financial position.

• Aids in Decision Making: The clear insights provided by these statements help all stakeholders—management, investors, creditors—in making more informed and rational economic decisions.

Illustration with a Comparative Income Statement

A Comparative Income Statement shows the operating results for two or more periods. It is particularly useful for assessing the trend in a company's profitability. Consider the following example:

Comparative Income Statement (Example)

Interpretation from the example:

• Positive Trend: Revenue from operations has increased by 20%, which is a positive sign of growth.

• Negative Trend: However, the Cost of Goods Sold has increased by 30%, which is much faster than the increase in sales. This is a red flag.

• Impact on Profitability: As a result, even though the absolute Gross Profit has increased by $\textsf{₹ } \ 20,000$, its rate of growth is only 5%. This indicates a decline in the gross profit margin and suggests that the company's efficiency in managing its production or procurement costs has worsened. This insight would not be as apparent without the comparative format.

Analysis and Interpretation of Financial Statements

Analysis of financial statements refers to the process of systematically classifying and simplifying the vast amount of data contained in the financial statements (Balance Sheet, Statement of Profit and Loss, etc.). It involves establishing meaningful relationships between different components of the statements through the use of tools like comparative statements, common-size statements, and ratio analysis. The primary goal of analysis is to break down complex information into a more understandable format.

Interpretation of financial statements is the subsequent step. It involves explaining the meaning and significance of the analyzed data. Interpretation is the art of drawing conclusions and making judgments about the financial performance (profitability) and financial position (solvency and liquidity) of a business. While analysis presents the "what," interpretation explains the "why" and "so what" behind the numbers.

Importance of Financial Analysis and Interpretation

The analysis and interpretation of financial statements are crucial for various stakeholders as it transforms raw data into actionable intelligence. Its importance is as follows:

1. Managerial Decision-Making: It is vital for the management to measure the firm's performance, identify areas of inefficiency, and formulate strategies for the future. It helps in controlling costs, managing assets effectively, and making sound financial plans.

2. Investor Decisions: For shareholders and potential investors, it helps in assessing the profitability and safety of their investment. By analyzing trends and ratios, they can decide whether to invest, hold, or sell their shares.

3. Credit Analysis: Lenders, banks, and suppliers use financial analysis to evaluate the creditworthiness of a company. It helps them assess the firm's ability to meet its short-term and long-term debt obligations, which is crucial for making lending and credit decisions.

4. Performance Evaluation: It provides a clear basis for evaluating the operating efficiency and financial health of the business. By comparing the firm's performance with its past performance (intra-firm comparison) and with other firms in the same industry (inter-firm comparison), a comprehensive evaluation is possible.

5. Forecasting and Budgeting: The analysis of historical financial data helps in identifying trends, which are essential for forecasting future earnings and financial position. This, in turn, aids in the preparation of budgets and financial plans.

Common-size statements are a tool of vertical analysis where each item in a financial statement is expressed as a percentage of a common base figure from that same statement. This converts the statement into a "common-size" format, making it easy to see the proportional significance of each item and to compare companies of different sizes.

Preparation of Common-Size Statements

The preparation involves the following steps:

1. For a Common-Size Balance Sheet:

• The total of the Assets side (or the total of Equity and Liabilities) is taken as the base, representing 100%.
• Each individual asset (e.g., Land, Machinery, Debtors) is then expressed as a percentage of the total assets.
• Similarly, each individual item of equity and liability (e.g., Share Capital, Creditors) is expressed as a percentage of the total equity and liabilities.

2. For a Common-Size Income Statement (Statement of Profit and Loss):

• The figure for 'Revenue from Operations' (or Net Sales) is taken as the base, representing 100%.
• Every other item on the statement, such as the cost of goods sold, operating expenses, and net profit, is then expressed as a percentage of the Revenue from Operations.

Example: Common-Size Income Statement

Let's assume a company has the following data:

• Revenue from Operations: $\textsf{₹ } \ 20,00,000$
• Cost of Goods Sold: $\textsf{₹ } \ 12,00,000$
• Operating Expenses: $\textsf{₹ } \ 4,00,000$

Common-Size Income Statement

Calculation for Percentages:

• Cost of Goods Sold % = ($\frac{12,00,000}{20,00,000}) \times 100 = 60\%$
• Net Profit % = ($\frac{4,00,000}{20,00,000}) \times 100 = 20\%$

This format clearly shows that for every $\textsf{₹ } \ 100$ of sales, the company spends $\textsf{₹ } \ 60$ on the cost of goods and $\textsf{₹ } \ 20$ on operating expenses, leaving a net profit of $\textsf{₹ } \ 20$.

Comparative Balance Sheet of Alpha Ltd.

as at March 31, 2016 and 2017

Comparative Balance Sheet of Beta Ltd.

as at March 31, 2016 and 2017

Comparative Statement of Profit and Loss

Comparative Statement of Profit and Loss

Common Size Statement of Profit and Loss of Shefali Ltd.

Common Size Balance Sheet