It outlines and reports everything from liabilities, assets, and owner equity as a percentage of the sales or assets. Creating this type of financial statement makes for easier analysis between companies. A financial statement or balance sheet that expresses itself as a percentage of the basic number of sales or assets is considered to be of a common size.

On the other hand, Horizontal Common Size Analysis represents each line item on a financial statement as a percentage of that same line item in a base year. This kind of analysis shows trends over time, allowing financial analysts and investors to evaluate a company’s growth patterns. Vertical Common Size Analysis is a method where each line item on a company’s financial statement is listed as the percentage of a single, reference item. For an income statement, this reference item is usually Gross Sales or Revenue, and for a balance sheet, it’s typically Total Assets or Total Equity. Common size vertical analysis lets you see how certain figures in your business compare with a selected figure in one given time period.

FAQs About Common Size Financial Statement

It enables stakeholders to make informed decisions based on the company’s financial health. Horizontal analysis is particularly useful when analyzing the trend of financial ratios over a certain period. It provides insights into how a company’s performance and financial health have changed over time, which can be instrumental in predicting future performance. Vertical analysis is most useful when comparing companies of different sizes within the same industry. Since the results are presented as ratios or percentages, it gives a far more relative perspective, allowing a fair analysis and comparison that absolute values wouldn’t permit. To perform a vertical analysis, each line item is divided by the chosen reference item and shown as a percentage.

It would work the same with liabilities listed as a percentage of total liabilities. It also includes stockholders equity being listed as a percentage of total stockholders equity. A common size balance sheet allows for the relative percentage of each asset, liability, and equity account to be quickly analyzed. Likewise, any single liability is compared to the value of total liabilities, and any equity account is compared to the value of total equity.

1. A common size income statement is an income statement in which each line item is expressed as a percentage of the value of revenue or sales.
2. Whenever you analyze your margins — gross profit, net profit or operating — you’re performing a common size analysis.
3. The information can be compared to competitors to see how well it is performing.
4. Let us try to undestand the concept of common size income statement interpretation with the help of some suitable examples.
5. If you’re evaluating the company’s profitability, the income statement would be most pertinent.

How To Prepare a Common-Size Income Statement Analysis

For example, if a company’s total revenue is $100,000 and its cost of goods sold is $40,000, then the cost of goods sold is 40% of the total revenue. An investor or financial analyst should combine it with other quantitative and qualitative analysis tools to form a comprehensive financial assessment. Doing so will help you see at a glance which expenses take up the largest percentage of your revenue. One company may be willing to sacrifice margins for market share, which would tend to make overall sales larger at the expense of gross, operating, or net profit margins. The common-size method is appealing for research-intensive companies because they tend to focus on research and development (R&D) and what it represents as a percent of total sales. Common size analysis is also an excellent tool to compare companies of different sizes but in the same industry.

The assets, liabilities, and share capital is represented as a percentage of total assets. Vertical analysis is especially helpful inanalyzing income statement data such as the percentage of cost ofgoods sold to sales. Where horizontal analysis looked at oneaccount at a time, vertical analysis will look at one YEAR at atime. Furthermore, common size analysis serves as an indispensable tool for detecting historical trends and patterns in a company’s financial performance. For example, consistently increasing percentages in certain expenditure elements may indicate inefficiencies that require management’s attention. For Synotech, Inc., approximately common size statement analysis 51 cents of every sales dollar is used by cost of goods sold and 49 cents of every sales dollar is left in gross profit to cover remaining expenses.

By looking at this common size income statement, we can see that the company spent 10% of revenues on research and development and 3% on advertising. Using common size percentages allows you to gain a different perspective of each line item. Or, they can also help show how each item affects the overall financial position of a company. However, it’s important to recognize that some of these limitations come due to various interpretations of the data being observed. A company’s cash flow statement breaks down all of the uses and sources of its cash. For example, it could be cash flows from financing, cash flows from operations, and cash flows from investing.

Common Size Income Statement

From the table above, we calculate that cash represents 14.5% of total assets while inventory represents 12%. In the liabilities section, accounts payable is 15% of total assets, and so on. Let’s now perform the common size of the Income Statement for different periods and analyze the same on the stand-alone period basis and for different years. In continuation of the above common size example, let us now compare two-year balance sheets of the same company. As seen above, the common size statement can give you a lot of better insights into the company’s financial position than when you look at the same otherwise.

The use of common-size statements facilitates vertical analysis of a company’s financial statements. Generally accepted accounting principles (GAAP) are based on consistency and comparability of financial statements. A common size income statement makes it easier to see what’s driving a company’s profits. The common size percentages also help to show how each line item or component affects the financial position of the company.

It not only benchmarks against competitors but also identifies financial trends, making it a foundation of sound economic and financial decisions. All three of the primary financial statements can be put into a common-size format. Financial statements in dollar amounts can easily be converted to common-size statements using a spreadsheet.

For example, large drops in the company’s profits in two or more consecutive years may indicate that the company is going through financial distress. Similarly, considerable increases in the value of assets may mean that the company is implementing an expansion or acquisition strategy, potentially making the company attractive to investors. She holds a Masters Degree in Professional Accounting from the University of New South Wales. Her areas of expertise include accounting system and enterprise resource planning implementations, as well as accounting business process improvement and workflow design. Jami has collaborated with clients large and small in the technology, financial, and post-secondary fields.