The most important function of financial analysis is to control the business so that one can easily determine how efficiency an organization is working. Analysis is done to ensure how the capital of the business is being utilized, and whether the financial condition is being improved or not.
Financial analysis and interpretation is an excellent tool in the hands of management of a business unit to identify financial strength and weakness of a business and to assess the efficiency and performance. The process involves critical examining the accounting data pertaining to financial statements. "Analysis of financial statements is a process of evaluating relationship between component parts of financial statements to obtain a better understanding of firm's position and performance." The information contained in the financial statements is of great value and relevance, it is through which the analysis and interpretation is made and the recommendations as well as forecasts for the future of a business are provided to the clients or the end users accordingly.
There are various steps comprised in the process of financial statements analysis. There is a need to select necessary data on the basis of set objectives. The process, having established the relationships between different elements of financial statements, entails identifying and segregating financial information, which may range from simple sorting and adjustments to preparing comparative, common size financial statements and financial ratios. The trends are also studied and represented graphically.
Next comes the stage of interpretation which is based on the processed data involving drawing of inferences from the analysis.
It is appropriate to mention here that analysis is ineffective unless it is followed by interpretation. The objective is to provide recommendations. Interpretation, in a general sense, means having a power of explaining. "To interpret means to put the meaning of a statement into simple terms for the benefit of a person." Interpreting financial statements is a highly technical skill that is acquired after a prolonged labor and experience. There is a need to have full understanding about nature of accounting, knowledge of various accounting principles, concepts and conventions; with adequate awareness of the nature of business concerned as well.
Last but not the least, the analysis and interpretation of financial statements is very much helpful to draw meaningful conclusion. It assesses overall financial strength while it measures the efficiency and profitability of a business with a specific focus on the future prospects of a business enterprise.
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