Blog / Executive Reporting
Management reporting: Horizontal analysis
Jul 9, 2023
Introduction
Management reporting is an essential part of a company's financial reporting. It provides the necessary information for decision-making, planning, and control. One of the most effective methods used in management reporting is horizontal analysis. In this article, we will explore the concept of horizontal analysis, its significance, applications, and how it can be utilized to improve financial decision-making.
What is horizontal analysis?
Horizontal analysis, also known as trend analysis, is a financial statement analysis technique that shows changes in amounts of corresponding financial statement items over a specific period. It is a useful tool for evaluating trend situations. Horizontal analysis can be performed on any item within the financial statements, such as revenues, expenses, assets, liabilities, and equity.
The primary purpose of horizontal analysis is to compare historical data, such as revenues or the cost of goods sold over a specific period. This allows financial professionals to identify trends, patterns, and potential concerns or opportunities.
Horizontal analysis: formula
Horizontal analysis (nominal) = Comparison period – Base period
Horizontal analysis (%) = (Comparison period – Base period) / Base period x 100
The significance of horizontal analysis in management reporting
In management reporting, horizontal analysis plays a key role for several reasons:
Identifying trends: Horizontal analysis helps identify trends over time, which can be useful for strategic planning and forecasting.
Performance evaluation: It allows managers to assess the company's performance over a specific period and gain insights into how well the company manages its revenues and expenses.
Investor relations: Horizontal analysis can be used in communication with investors by demonstrating the company's growth and profitability trends over time.
Comparative analysis: Horizontal analysis can also be used for comparative analyses where the company's performance is compared to industry averages or competitors.
Applying horizontal analysis
Let’s consider a fictional Company A to illustrate the application of horizontal analysis. The company is a technology firm that has been operating for five years. The company's income statement for the last three years is as follows (in thousands):
Year, Revenue, Cost of Goods Sold (COGS), Operating Expenses, Operating Costs
2021 $500 $200 $150
2022 $550 $220 $170
2023 $600 $240 $200
For horizontal analysis, the percentage change year over year is calculated. For example, the revenue growth from 2021 to 2022 is calculated as follows:
((550 - 500) / 500) * 100 = 10%
The same calculation can be done for costs and operating expenses. The results can be tabulated as follows:
Year, Revenue Growth, COGS Growth, Operating Expenses Growth
2021 - - -
2022 10% 10% 13.33%
2023 9.09% 9.09% 17.65%
The analysis shows that while Company A's revenue has consistently grown, its operating expenses have grown faster. This could be a potential concern that management needs to address.
In conclusion
Horizontal analysis is an effective tool in management reporting. It provides a clear picture of the company’s financial condition over time, allowing managers to make informed decisions. However, it is important to note that horizontal analysis should not be used in isolation. It should be complemented by other financial analysis techniques such as vertical analysis and ratio analysis to obtain a comprehensive view of the company's financial performance.
Read more: Types of financial reporting
Read more: Management reporting: metrics and metric categories
Introduction
Management reporting is an essential part of a company's financial reporting. It provides the necessary information for decision-making, planning, and control. One of the most effective methods used in management reporting is horizontal analysis. In this article, we will explore the concept of horizontal analysis, its significance, applications, and how it can be utilized to improve financial decision-making.
What is horizontal analysis?
Horizontal analysis, also known as trend analysis, is a financial statement analysis technique that shows changes in amounts of corresponding financial statement items over a specific period. It is a useful tool for evaluating trend situations. Horizontal analysis can be performed on any item within the financial statements, such as revenues, expenses, assets, liabilities, and equity.
The primary purpose of horizontal analysis is to compare historical data, such as revenues or the cost of goods sold over a specific period. This allows financial professionals to identify trends, patterns, and potential concerns or opportunities.
Horizontal analysis: formula
Horizontal analysis (nominal) = Comparison period – Base period
Horizontal analysis (%) = (Comparison period – Base period) / Base period x 100
The significance of horizontal analysis in management reporting
In management reporting, horizontal analysis plays a key role for several reasons:
Identifying trends: Horizontal analysis helps identify trends over time, which can be useful for strategic planning and forecasting.
Performance evaluation: It allows managers to assess the company's performance over a specific period and gain insights into how well the company manages its revenues and expenses.
Investor relations: Horizontal analysis can be used in communication with investors by demonstrating the company's growth and profitability trends over time.
Comparative analysis: Horizontal analysis can also be used for comparative analyses where the company's performance is compared to industry averages or competitors.
Applying horizontal analysis
Let’s consider a fictional Company A to illustrate the application of horizontal analysis. The company is a technology firm that has been operating for five years. The company's income statement for the last three years is as follows (in thousands):
Year, Revenue, Cost of Goods Sold (COGS), Operating Expenses, Operating Costs
2021 $500 $200 $150
2022 $550 $220 $170
2023 $600 $240 $200
For horizontal analysis, the percentage change year over year is calculated. For example, the revenue growth from 2021 to 2022 is calculated as follows:
((550 - 500) / 500) * 100 = 10%
The same calculation can be done for costs and operating expenses. The results can be tabulated as follows:
Year, Revenue Growth, COGS Growth, Operating Expenses Growth
2021 - - -
2022 10% 10% 13.33%
2023 9.09% 9.09% 17.65%
The analysis shows that while Company A's revenue has consistently grown, its operating expenses have grown faster. This could be a potential concern that management needs to address.
In conclusion
Horizontal analysis is an effective tool in management reporting. It provides a clear picture of the company’s financial condition over time, allowing managers to make informed decisions. However, it is important to note that horizontal analysis should not be used in isolation. It should be complemented by other financial analysis techniques such as vertical analysis and ratio analysis to obtain a comprehensive view of the company's financial performance.
Read more: Types of financial reporting
Read more: Management reporting: metrics and metric categories