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The Role of Financial Statements

in Managerial Decision Making

In todays sometimes volatile economy, business managers are frequently asked
to make process decisions that help the companys capital work harder or to
decrease overhead costs. Good managers have many tools at their disposal to
accomplish these goals, provided they have a good understanding of the
companys financial position. Familiarity with the basic types of financial
statements and the ability to interpret the numbers behind them are essential to
sound business decision-making.

Three Basic Financial Statements

While there are some differences between nonprofit and for-profit entities, all
businesses typically prepare these three most common financial statements
the balance sheet, the income statement, and the cash-flow statement. These
documents are prepared according to generally accepted accounting principles
and presented in a standardized format.
Financial statements are neutral; they present an accurate picture of the activities
of the business over a defined period. The business manager then evaluates the
data to make operating decisions, such as whether the business is positioned to
free up existing cash for operating expenses or needs to obtain additional credit.

The Balance Sheet

The information in the balance sheet drives many business decisions. For
example, assume you work for a company with $25 million in annual sales.
Examining the balance sheet, you discover that there are six weeks of sales
sitting in accounts receivable.
Simply by changing credit policies within the company and focusing on
streamlining collections so that most receivables are resolved within 30 days, a
million dollars can become available for operating capital without increasing sales
or leveraging a line of credit. A good business manager can see possibilities for
growth and efficiencies behind the numbers in the balance sheet.

Cash-flow Statement
The cash-flow statement is one of the most important documents for making
management decisions. While the company can look profitable based on
standard accounting methods, the cash-flow statement tells managers whether
the company has cash to pay its bills over the short-term.
Net income and earnings can be manipulated to paint a healthy financial picture,
but the cash-flow statement presents the reality of the companys ability to
maintain operations. A drop in the companys operating cash-flow ratio should
trigger a red flag, indicating business managers need to reassess pricing,
inventory, overhead, debt, and other short-term decisions to improve the
companys cash position.

The Income Statement

The income statement differs from the cash-flow statement in significant ways: It
includes intangibles such as depreciation, but it does not show when revenue is
actually received and payables are actually paid. It shows projected profitability
over a period. It is also a useful tool for comparing a companys performance to
others of similar size in similar industries. The data in the income
statement helps inform decisions that control operating expenses and cost of
goods sold to keep profit margins intact.
Business professionals with the skills to analyze financial statements to inform
decisions affecting a companys operations and profitability are in high demand in
todays job market. MBA online colleges offer significant opportunities to master
the financial skills that will give you a competitive edge.
Using Financial Statements For Decision-making
by Dr. Carl Marx of

The Financial statements of a company or individual are the documents that reflect the historic
financial information of the entity. This includes a detailed and accurate record of the assets and
liabilities as well as the income and expenses and also the cash flow of the entity.

The Financial Statements

Financial statement as communications medium provides a valuable summary of the entities

economic history. It is useful to establish the performance as well as the future potential of the
The financial statements that will be discussed in this article are:

The Balance sheet - this is a record of the assets and liabilities on a given date. The Income
statement - this is a record of the income and expenses for the reporting period. The Cash Flow
statement - this is a record of the sources and application of funds that includes operating,
investment, and financing activities and how they impacted on the cash position during the
reporting period.
The Purpose of Financial Statements

The primary purpose of the accountant is to provide appropriate information in a standardized

format for the taking of financially based decisions. For this purpose the financial statements
generally follows a standardized structure. The financial statements are a record of the activities
but do not provide an evaluation of the data. Despite the important role of the financial
statements they do not provide an evaluation of the accounting results. In order to be able to use
the information contained in the various financial statements for financial decision-making, a
number of measurements and evaluations needs to be made to the numbers. Only then will the
information be useful as a tool for decision-making.

The Purpose of Measurement and Evaluation

The purpose of the conducting measurements and making evaluation is to provide answers to the
following questions:

Why there are no excess funds available? Are the reporting entity financially sound? Would it be
possible to make further loans? Will available cash generating be sufficient to provide in the
anticipated demand?
The format and type of information obtained during this process will depend on the intended
users of the information.

Interpreting the Numbers

The conducting measurements and the making of evaluation process basically consists of the
rearranging of the information in order to obtain information in a format that can be used to
appraise the performance, activities, financial health, stability and growth potential.
In order to conduct a proper evaluation and interpretation of financial statements the following
important steps needs to be followed.

Conduct a superficial analysis of the financial statements in order to obtain an initial feeling for
the areas that needs special attention. Conduct an evaluation of the flow of funds in order to
establish the ability of the entity to generate cash as well as the needs for funds. Conduct a ratio
analysis in relation to Rentability also sometimes called profitability,Risk and Growth Analysis
of non-financial information

From the above introduction to financial statements it is clear that not all the information
necessary to make sound financial decisions is readily available form these statements. A
number of ratios need to be calculated and compared with others to enable the decision maker to
draw the correct conclusions. It should be remembered that the financial statements reflect the
historic activities and that decisions are taken about the future. This can only be done by drawing
conclusions about trends of the different ratios rather than the actual historic numbers.

Carl Marx 2009

How Can Managers Use Accounting Information?
by Sheila Shanker

Related Articles
1Why Management Accounting Is Important in Decision-Making
2General Uses of Accounting Information
3The Differences Between Financial Accounting & Management Accounting
4The Advantages of Management Accounting
Accounting provides management with data needed to determine whether a business is at a loss or a profit,
how much debtors owe, how much a business owes others, and other financial information. Accounting
measures business transactions and as such can help steer managers in the right direction with solid
information, not gut-feelings. Basically accounting is a tool for management to employ to help make sound
business decisions on a timely manner. For instance, if by using accounting information, managers notice that
the trend is for sales to decrease, then they can take measures to stop this trend. Maybe they need to change
prices or decrease expenses to handle the down-trend. The key is that accounting gave them the clue that
something may not be going according to plan, playing an important role in business management.

1. Get your cash numbers. Cash is the most important business asset. Managers should use accounting
information to see where the business is cash-wise and to plan for financing and other strategies for short-term
and long-term planning. For example, if the cash balance is $50,000 and there is a need for a large purchase of
$120,000 for equipment, a manager may decide to finance the entire purchase instead of using the $50,000
balance. Many managers and business owners use ratios to analyze financial data. For example current ratio, a
popular way to verify how a business is able to meet its short-term debt, is calculated by dividing current assets
by current liabilities. The higher this ratio, the better off a firm is.

2. Mind your budget, which is an estimate of income and expenses for a certain point in time. It is a guide to
ensure that a business is on track, as planned. Managers should be aware of budget numbers and how they
compare to actual numbers. For example, if a postage expense number is almost over budget, managers can
research the reason for the excessive expense in that line item and make decisions about that. If actual versus
budget reports show a trend towards more expensive inventory costs, then managers may consider
renegotiating terms or prices or even changing suppliers.
The Role Of Financial Statements In Business Decision
Financial statements, one of the most important aspect of any business which provide a clear picture

of the companys financial health for a particular period of time and also at any given point in

time.Financial statements are the best gears which provide vital information about the company

overall financial health.

When it comes to decision making, decision makers are required to make several process decision

which help to increase the overall profitability of the business. They have many tools which help

them take decision but the most important of all are the financial statements which give a good

understanding of the companys financial position. To make sound business decisions, even the

most basic types of financial statements and the ability to interpret the numbers behind them are

immensely essential. Lets discuss the role of financial statements in business decision making.

The Four Basic Financial Statements

The balance sheet, the income statement, the statement of retained earnings, and the cash flow

statement are the four basic financial statements. Most of the businesses prepare these basic

statements which are used primarily by investors, creditors, and other external decisions makers.

These four financial statements summarize the overall financial activities of the business.

Role Of Financial Statements In Business

Decision Making
1. Formulate Plans & Policies

The management of the company is time and again required to take several decisions with regards

to formulating plans and policies for the future. Hence to take such decision they need to evaluate

the past performance of the company. Financial statements in such cases provide the decision

makers with a clear picture of the required period of time, helping them take necessary decisions

regarding the plan and policies.

2. Holding Of Share

Shareholders being the owners of the company need to time and again take decision whether they

want to continue with the holdings of the companys share or sell them out. The annual financial

statement provides the shareholders with meaningful information to take such decisions.

3. Expansion Of Credit

The creditors or the lenders are the providers of loan capital to the company. They use the entire set

of information provided in the financial statements to determine whether they should or restrict the

extent of credit to a business. They also decided the interest rates of the loans give to the company

based on the financial statements.

4. Investment Decision

Prospective investors who have surplus capital to invest in profitable opportunities look for financial

information of the company they are looking to invest in. To decide whether or not to invest their

capital in the companys share, the financial statement play an important role in providing useful

information for their investment decision making purpose.

5. Taxation Decisions

Financial statements help the decision makes to make taxation decisions. By giving vital information

based on the assets or income, the decision makers can derive the information from the financials.

They can take decision to save taxes based on these financial statements.

The financial statements play a number of different roles. And each and every role depends largely

upon who is reading the information and which financial statements are being examined. Hence

therole of financial statements in business decision making is vital.

Business decisions when based on financial data become the most important parameter which

should also be accurate and relevant. iSN Global Solutions document sourcing team have rich

experience in Sourcing Of Financial Documents. We are the right people to find out valuable

financial data which is most accurate and relevant for your business. Contact Us for our

excellentFinancial Document Services.

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Here are the calculations you should do to conduct a proper financial
analysis of your business's operations.

Mike Periu
President, Proximo, LLC


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APRIL 13, 2015

Financial health is one of the best indicators of your business's potential for long-
term growth. The Federal Reserve Bank of Chicago's recent Small Business
Financial Health Analysis

indicates business owners knowledgeable about business finance tend to

have companies with greater revenues and profits, more employees and
generally more success.

The first step toward improving financial literacy is to conduct a financial analysis
of your business. A proper analysis consists of five key areas, each containing its
own set of data points and ratios.
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1. Revenues
Revenues are probably your business's main source of cash. The quantity,
quality and timing of revenues can determine long-term success.

If a single customer generates a high percentage

of your revenues, you could face financial
difficulty if that customer stops buying. No client
should represent more than 10 percent of your
total revenues.
Revenue growth (revenue this period - revenue last period)
revenue last period. When calculating revenue growth, don't include
one-time revenues, which can distort the analysis.

Revenue concentration (revenue from client total revenue). If a

single customer generates a high percentage of your revenues, you
could face financial difficulty if that customer stops buying. No client
should represent more than 10 percent of your total revenues.

Revenue per employee (revenue average number of

employees). This ratio measures your business's productivity. The
higher the ratio, the better. Many highly successful companies achieve
over $1 million in annual revenue per employee.
2. Profits
If you can't produce quality profits consistently, your business may not survive in
the long run.

Gross profit margin (revenues cost of goods sold) revenues. A

healthy gross profit margin allows you to absorb shocks to revenues or
cost of goods sold without losing the ability to pay for ongoing

Operating profit margin (revenues cost of goods sold operating

expenses) revenues. Operating expenses don't include interest or
taxes. This determines your companys ability to make a profit
regardless of how you finance operations (debt or equity). The higher,
the better.

Net profit margin (revenues cost of goods sold operating

expenses all other expenses) revenues. This is what remains for
reinvestment into your business and for distribution to owners in the
form of dividends.

3. Operational Efficiency
Operational efficiency measures how well you're using the companys resources.
A lack of operational efficiency leads to smaller profits and weaker growth.

Accounts receivables turnover (net credit sales average

accounts receivable). This measures how efficiently you manage the
credit you extend to customers. A higher number means your company
is managing credit well; a lower number is a warning sign you
should improve how you collect from customers.
Inventory turnover (cost of goods sold average inventory). This
measures how efficiently you manage inventory. A higher number is a
good sign; a lower number means you either aren't selling well or are
producing too much for your current level of sales.

4. Capital Efficiency and Solvency

Capital efficiency and solvency are of interest to lenders and investors.

Return on equity (net income shareholders equity). This

represents the return investors are generating from your business.

Debt to equity (debt equity). The definitions of debt and equity can
vary, but generally this indicates how much leverage you're using to
operate. Leverage should not exceed what's reasonable for your

5. Liquidity
Liquidity analysis addresses your ability to generate sufficient cash to cover cash
expenses. No amount of revenue growth or profits can compensate for poor

Current ratio (current assets current liabilities). This measures

your ability to pay off short-term obligations from cash and other current
assets. A value less than 1 means your company doesn't have sufficient
liquid resources to do this. A ratio above 2 is best.

Interest coverage (earnings before interest and taxes interest

expense).This measures your ability to pay interest expense from the
cash you generate. A value less than 1.5 is cause for concern to

Basis for Comparison

The final part of the financial analysis is to establish a proper basis for
comparison, so you can determine if performance is aligned with appropriate
benchmarks. This works for each data point individually as well as for your
overall financial condition.

The first basis is your companys past, to determine if your financial condition is
improving or worsening. Typically, the past three years of performance is
sufficient, but if access to older data is available, you should use that as well.
Looking at your past and present financial condition also helps you spot trends.
If, for example, liquidity has decreased consistently, you can make changes.

The second basis is your direct competitors. This can provide an important reality
check. Having revenue growth of 10 percent annually may sound good, but if
competitors are growing at 25 percent, it highlights underperformance.

The final basis consists of contractual covenants. Lenders, investors and key
customers usually require certain financial performance benchmarks. Maintaining
key financial ratios and data points within predetermined limits can help these
third parties protect their interests.

The information contained in this article is for generalized informational and

educational purposes only and is not designed to substitute for, or replace, a
professional opinion about any particular business or situation or judgment about
the risks or appropriateness of any financial or business strategy or approach for
any specific business or situation. THIS ARTICLE IS NOT A SUBSTITUTE FOR
PROFESSIONAL ADVICE. The views and opinions expressed in authored
articles on OPEN Forum represent the opinion of their author and do not
necessarily represent the views, opinions and/or judgments of American Express
Company or any of its affiliates, subsidiaries or divisions (including, without
limitation, American Express OPEN). American Express makes no
representation as to, and is not responsible for, the accuracy, timeliness,
completeness or reliability of any opinion, advice or statement made in this

Read more articles on financial analysis.

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Financial statement analysis

July 15, 2017
Overview of Financial Statement Analysis

Financial statement analysis involves gaining an understanding of an organization's financial

situation by reviewing its financial statements. This review involves identifying the following
items for a company's financial statements over a series of reporting periods:

Trends. Create trend lines for key items in the financial statements over multiple time periods, to
see how the company is performing. Typical trend lines are for revenues, the gross margin, net
profits, cash, accounts receivable, and debt.
Proportion analysis. An array of ratios are available for discerning the relationship between the
size of various accounts in the financial statements. For example, one can calculate a company's
quick ratio to estimate its ability to pay its immediate liabilities, or its debt to equity ratio to see if
it has taken on too much debt. These analyses are frequently between the revenues and expenses
listed on the income statement and the assets, liabilities, and equity accounts listed on the balance

Financial statement analysis is an exceptionally powerful tool for a variety of users of financial
statements, each having different objectives in learning about the financial circumstances of the

Users of Financial Statement Analysis

There are a number of users of financial statement analysis. They are:

Creditors. Anyone who has lent funds to a company is interested in its ability to pay back the debt,
and so will focus on various cash flow measures.
Investors. Both current and prospective investors examine financial statements to learn ab out a
company's ability to continue issuing dividends, or to generate cash flow, or to continue growing
at its historical rate (depending upon their investment philosophies).
Management. The company controller prepares an ongoing analysis of the company's financial
results, particularly in relation to a number of operational metrics that are not seen by outside
entities (such as the cost per delivery, cost per distribution channel, profit by product, and so
Regulatory authorities. If a company is publicly held, its financial statements are examined by the
Securities and Exchange Commission (if the company files in the United States) to see if its
statements conform to the various accounting standards and the rules of the SEC.

Methods of Financial Statement Analysis

There are two key methods for analyzing financial statements. The first method is the use of
horizontal and vertical analysis. Horizontal analysis is the comparison of financial information
over a series of reporting periods, while vertical analysis is the proportional analysis of a
financial statement, where each line item on a financial statement is listed as a percentage of
another item. Typically, this means that every line item on an income statement is stated as a
percentage of gross sales, while every line item on a balance sheet is stated as a percentage of
total assets. Thus, horizontal analysis is the review of the results of multiple time periods, while
vertical analysis is the review of the proportion of accounts to each other within a single period.

The second method for analyzing financial statements is the use of many kinds of ratios. You
use ratios to calculate the relative size of one number in relation to another. After you calculate
a ratio, you can then compare it to the same ratio calculated for a prior period, or that is based
on an industry average, to see if the company is performing in accordance with expectations. In
a typical financial statement analysis, most ratios will be within expectations, while a small
number will flag potential problems that will attract the attention of the reviewer.

There are several general categories of ratios, each designed to examine a different aspect of a
company's performance. The general groups of ratios are:

1. Liquidity ratios. This is the most fundamentally important set of ratios, because they measure the
ability of a company to remain in business. Click the following links for a thorough review of each
o Cash coverage ratio. Shows the amount of cash available to pay interest.
o Current ratio. Measures the amount of liquidity available to pay for current liabilities.
o Quick ratio. The same as the current ratio, but does not include inventory.
o Liquidity index. Measures the amount of time required to convert assets into cash.
2. Activity ratios. These ratios are a strong indicator of the quality of management, since they reveal
how well management is utilizing company resources. Click the following links for a thorough
review of each ratio.
o Accounts payable turnover ratio. Measures the speed with which a company pays its suppliers.
o Accounts receivable turnover ratio. Measures a company's ability to collect accounts receivable.
o Fixed asset turnover ratio. Measures a company's ability to generate sales from a certain base of
fixed assets.
o Inventory turnover ratio. Measures the amount of inventory needed to support a given level of
o Sales to working capital ratio. Shows the amount of working capital required to support a given
amount of sales.
o Working capital turnover ratio. Measures a company's ability to generate sales from a certain base
of working capital.
3. Leverage ratios. These ratios reveal the extent to which a company is relying upon debt to fund its
operations, and its ability to pay back the debt. Click the following links for a thorough review of
each ratio.
o Debt to equity ratio. Shows the extent to which management is willing to fund operations with
debt, rather than equity.
o Debt service coverage ratio. Reveals the ability of a company to pay its debt obligations.
o Fixed charge coverage. Shows the ability of a company to pay for its fixed costs.
4. Profitability ratios. These ratios measure how well a company performs in generating a profit.
Click the following links for a thorough review of each ratio.
o Breakeven point. Reveals the sales level at which a company breaks even.
o Contribution margin ratio. Shows the profits left after variable costs are subtracted from sales.
o Gross profit ratio. Shows revenues minus the cost of goods sold, as a proportion of sales.
o Margin of safety. Calculates the amount by which sales must drop before a company reaches its
break even point.
o Net profit ratio. Calculates the amount of profit after taxes and all expenses have been deducted
from net sales.
o Return on equity. Shows company profit as a percentage of equity.
o Return on net assets. Shows company profits as a percentage of fixed assets and working capital.
o Return on operating assets. Shows company profit as percentage of assets utilized.

Problems with Financial Statement Analysis

While financial statement analysis is an excellent tool, there are several issues to be aware of
that can interfere with your interpretation of the analysis results. These issues are:

Comparability between periods. The company preparing the financial statements may have
changed the accounts in which it stores financial information, so that results may differ from
period to period. For example, an expense may appear in the cost of goods sold in one period, and
in administrative expenses in another period.
Comparability between companies. An analyst frequently compares the financial ratios of different
companies in order to see how they match up against each other. However, each company may
aggregate financial information differently, so that the results of their ratios are not really
comparable. This can lead an analyst to draw incorrect conclusions about the results of a company
in comparison to its competitors.
Operational information. Financial analysis only reviews a company's financial information, not
its operational information, so you cannot see a variety of key indicators of future performance,
such as the size of the order backlog, or changes in warranty claims. Thus, financial analysis only
presents part of the total picture.

Similar Terms

Horizontal analysis is also known as trend analysis.

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Financial analysis
June 17, 2014
Financial analysis is the examination of financial information to reach business decisions. This
analysis typically results in the reallocation of resources to or from a business or a specific
internal operation. This type of analysis applies particularly well to the following situations:

Investment decisions by external investor. In this situation, a financial analyst or investor reviews
the financial statements and accompanying disclosures of a company to see if it is worthwhile to
invest in or lend money to the entity. This typically involves ratio analysis to see if the
organization is sufficiently liquid and generates a sufficient amount of cash flow. It may also
involve combining the information in the financial statements for multiple periods to derive trend
lines that can be used to extrapolate financial results into the future.
Investment decisions by internal investor. In this situation, an internal analyst reviews the
projected cash flows and other information related to a prospective investment (usually for a fixed
asset). The intent is to see if the expected cash outflows from the project will generate a sufficient
return on investment. This examination can also focus on whether to rent, lease, or purchase an

The key source of information for financial analysis is the financial statements of a business.
The financial analyst uses these documents to derive ratios, create trend lines, a nd conduct
comparisons against similar information for comparable firms.

The outcome of financial analysis may be any of these decisions:

Whether to invest in a business, and at what price per share.

Whether to lend money to a business, and if so, what terms to offer.
Whether to invest internally in an asset or working capital, and how to finance the acquisition.

Financial analysis is one of the key tools needed by the managers of a business to examine how
their organization is performing. For this reason, they are constantly querying the financial
analyst about the profitability, cash flows, and other financial aspects of their business.
Steven Bragg
Financial Analysis
Business Finance

How Do You Do Financial Statement Analysis?

Use These Techniques to Analyze the Business Firm's Financial
By Rosemary Peavler
Updated September 15, 2016

There are a number of techniques you can use to perform financial statement analysis for your
business firm, depending on what you are trying to find out. The financial statements you want to
use in your analysis is the balance sheet, income statement, and statement of cash flows. First,
you need to know how to prepare the financial statements. After learning preparation, financial
analysis comes next. Here are some techniques to use to analyze your financial statements:

Trend Analysis
Trend analysis is also called time-series analysis. Trend analysis helps a firm's financial manager
determine how the firm is likely to perform over time. Trend analysis is based on historical data
from the firm's financial statements and forecasted data from the firm's pro forma, or forward-
looking, financial statements.

One popular way of doing trend analysis is by using financial ratio analysis. If you
calculate financial ratios for a business firm, you have to calculate at least two years of ratios in
order for them to mean anything. Ratios are meaningless unless you have something to compare
them to, in this case other year's of data. Trend analysis is even more powerful if you have and
use several years of financial ratios.

Common Size Financial Statement Analysis
Common size financial statement analysis is analyzing the balance sheet and income
statement using percentages. All income statement line items are stated as a percentage of sales.
All balance sheet line items are stated as a percentage of total assets. For example, on the income
statement, every line item is divided by sales and on the balance sheet, every line item is divided
by total assets. This type of analysis enables the financial manager to view the income statement
and balance sheet in a percentage format which is easy to interpret.

If you look at this income statement, for example, you can develop a common size income
statement. If you calculate the percentage that net income is of total sales, the formula is
$64,000/$1,000,000 = 6.4%. You can apply that formula to every line item on the income
statement to develop your common size income statement. As with financial ratio analysis, you
can compare the common size income statement from one year to other years of data to see how
your firm is doing. It is generally easier to make that comparison using percentages rather than
absolute numbers. More

Percentage Change Financial Statement Analysis
Percentage change financial statement analysis gets a little more complicated. When you use this
form of analysis, you calculate growth rates for all income statement items and balance sheet
accounts relative to a base year. This is a very powerful form of financial statement analysis.
You can actually see how different income statement items and balance sheet accounts grew or
declined relative to grows or declines in sales and total assets.

Here is an example of percentage change analysis. Let's say that XYZ, Inc. has $500 in inventory
on its balance sheet in 2011 and $700 in inventory on its balance sheet in 2012. How much has
inventory grown in 2012? The formula to calculate the growth rate in inventory is the following:
Change in inventory/Beginning inventory Balance = $200/$500 = 0.40 = 40%. The change in
inventory for XYZ, Inc. in 2012 is 40%.
If you do a percentage change analysis for all balance sheet and income statement items, you can
see how helpful it would be to the financial manager.

Benchmarking is also called industry analysis. Benchmarking involves comparing a company to
other companies in the same industry in order to see how one company is doing financially
compared to the industry. This type of analysis is very helpful to the financial manager as it helps
to see if any financial adjustments need to be made.

Financial ratio analysis are usually used for benchmarking analysis. Financial ratios for other
companies can be obtained from a number of sources. Here is an excellent source of industry
average ratios. You can also obtain industry average ratios from Value Line and Dun and

In order to do benchmarking, you compare the ratios for one company to the ratios for other
companies in the same industry. You have to be sure that the industry average ratiosare
calculated in the same way the ratios for your company are calculated when you do

Using these four financial statement analysis techniques help a financial manager know where
a business firm is financially both internally and as compared to other firms in the industry.
Together, they are powerful analysis tools that will help every business firm stay solvent and
Financial Planning in Six Steps

FPSBs Financial Planning Process consist of six steps that financial planning
professionals use to consider all aspects of a clients financial situation when
formulating financial planning strategies and making recommendations. Scroll
down to learn about each step in the process.
The steps in the financial planning process are as follows:

1. Establish and define the relationship with the client.

The financial planning professional informs the client about the financial
planning process, the services the financial planning professional offers,
and the financial planning professionals competencies and experience.
The financial planning professional and the client determine whether the
services offered by the financial planning professional and his or her
competencies meet the needs of the client. The financial planning
professional considers his or her skills, knowledge and experience in
providing the services requested or likely to be required by the client.
The financial planning professional determines if he or she has, and
discloses, any conflict(s) of interest. The financial planning professional
and the client agree on the services to be provided. The financial
planning professional describes, in writing, the scope of the
engagement before any financial planning is provided, including details
about: the responsibilities of each party (including third parties); the
terms of the engagement; and compensation and conflict(s) of interest
of the financial planning professional. The scope of the engagement is
set out in writing in a formal document signed by both parties or formally
accepted by the client and includes a process for terminating the
2. Collect the clients information.
The financial planning professional and the client identify the clients
personal and financial objectives, needs and priorities that are relevant
to the scope of the engagement before making and/or implementing any
recommendations. The financial planning professional collects sufficient
quantitative and qualitative information and documents about the client
relevant to the scope of the engagement before making and/or
implementing any recommendations.
3. Analyze and assess the clients financial status.
The financial planning professional analyzes the clients information,
subject to the scope of the engagement, to gain an understanding of the
clients financial situation. The financial planning professional assesses
the strengths and weaknesses of the clients current financial situation
and compares them to the clients objectives, needs and priorities.
4. Develop the financial planning recommendations and present them
to the client.
The financial planning professional considers one or more strategies
relevant to the clients current situation that could reasonably meet the
clients objectives, needs and priorities; develops the financial planning
recommendations based on the selected strategies to reasonably meet
the clients confirmed objectives, needs and priorities; and presents the
financial planning recommendations and the supporting rationale in a
way that allows the client to make an informed decision.
5. Implement the financial planning recommendations.
The financial planning professional and the client agree on
implementation responsibilities that are consistent with the scope of the
engagement, the clients acceptance of the financial planning
recommendations, and the financial planning professionals ability to
implement the financial planning recommendations. Based on the scope
of the engagement, the financial planning professional identifies and
presents appropriate product(s) and service(s) that are consistent with
the financial planning recommendations accepted by the client.
6. Review the clients situation.
The financial planning professional and client mutually define and agree
on terms for reviewing and reevaluating the clients situation, including
goals, risk profile, lifestyle and other relevant changes. If conducting a
review, the financial planning professional and the client review the
clients situation to assess progress toward achievement of the
objectives of the financial planning recommendations, determine if the
recommendations are still appropriate, and confirm any revisions
mutually considered necessary.
Freshman Year

Sophomore Year

Junior Year
Most people want to handle their finances so that
Senior Experience
they get full satisfaction from each available
dollar. Typical financial goals include such things
as a new car, a larger home, advanced career
training, extended travel, and self-sufficiency
Research Center
during working and retirement years.
Sound Advice To achieve these and other goals, people need to
identify and set priorities. Financial and personal
New York Times satisfaction are the result of an organized
process that is commonly referred to as personal
money management or personal financial
Personal financial planning is the process of
managing your money to achieve personal
economic satisfaction. This planning process
allows you to control your financial situation.
Every person, family, or household has a unique
financial position, and any financial activity
therefore must also be carefully planned to meet
specific needs and goals.
A comprehensive financial plan can enhance the
quality of your life and increase your satisfaction
by reducing uncertainty about your future needs
and resources. The specific advantages of
personal financial planning include
Increased effectiveness in obtaining, using, and
protecting your financial resources throughout
your lifetime.
Increased control of your financial affairs by
avoiding excessive debt, bankruptcy, and
dependence on others for economic security.
Improved personal relationships resulting from
well-planned and effectively communicated
financial decisions.
A sense of freedom from financial worries
obtained by looking to the future, anticipating
expenses, and achieving your personal economic

We all make hundreds of decisions each day. Most of

these decisions are quite simple and have few
consequences. Some are complex and have long-term
effects on our personal and financial situations. The
financial planning process is a logical, six-step

(1) determining your current financial situation

(2) developing financial goals
(3) identifying alternative courses of action
(4) evaluating alternatives
(5) creating and implementing a financial action
plan, and
(6) reevaluating and revising the plan.

Step 1: Determine Your Current Financial


In this first step of the financial planning process,

you will determine your current financial situation
with regard to income, savings, living expenses,
and debts. Preparing a list of current asset and
debt balances and amounts spent for various
items gives you a foundation for financial
planning activities.

Step 2: Develop Financial Goals

You should periodically analyze your financial

values and goals. This involves identifying how
you feel about money and why you feel that way.
The purpose of this analysis is to differentiate
your needs from your wants.
Specific financial goals are vital to financial
planning. Others can suggest financial goals for
you; however, you must decide which goals to
pursue. Your financial goals can range from
spending all of your current income to developing
an extensive savings and investment program for
your future financial security.

Step 3: Identify Alternative Courses of Action

Developing alternatives is crucial for making

good decisions. Although many factors will
influence the available alternatives, possible
courses of action usually fall into these
Continue the same course of action.
Expand the current situation.
Change the current situation.
Take a new course of action.

Not all of these categories will apply to every

decision situation; however, they do represent
possible courses of action.
Creativity in decision making is vital to effective
choices. Considering all of the possible
alternatives will help you make more effective
and satisfying decisions.

Step 4: Evaluate Alternatives

You need to evaluate possible courses of action,

taking into consideration your life situation,
personal values, and current economic
Consequences of Choices. Every decision closes
off alternatives. For example, a decision to invest
in stock may mean you cannot take a vacation. A
decision to go to school full time may mean you
cannot work full time. Opportunity cost is what
you give up by making a choice. This cost,
commonly referred to as the trade-off of a
decision, cannot always be measured in dollars.
Decision making will be an ongoing part of your
personal and financial situation. Thus, you will
need to consider the lost opportunities that will
result from your decisions.

Evaluating Risk

Uncertainty is a part of every decision. Selecting

a college major and choosing a career field
involve risk. What if you dont like working in this
field or cannot obtain employment in it?
Other decisions involve a very low degree of risk,
such as putting money in a savings account or
purchasing items that cost only a few dollars.
Your chances of losing something of great value
are low in these situations.
In many financial decisions, identifying and
evaluating risk is difficult. The best way to
consider risk is to gather information based on
your experience and the experiences of others
and to use financial planning information

Financial Planning Information Sources

Relevant information is required at each stage of

the decision-making process. Changing personal,
social, and economic conditions will require that
you continually supplement and update your

Step 5: Create and Implement a Financial Action


In this step of the financial planning process, you

develop an action plan. This requires choosing
ways to achieve your goals. As you achieve your
immediate or short-term goals, the goals next in
priority will come into focus.
To implement your financial action plan, you may
need assistance from others. For example, you
may use the services of an insurance agent to
purchase property insurance or the services of an
investment broker to purchase stocks, bonds, or
mutual funds.

Step 6: Reevaluate and Revise Your Plan

Financial planning is a dynamic process that does
not end when you take a particular action. You
need to regularly assess your financial decisions.
Changing personal, social, and economic factors
may require more frequent assessments.
When life events affect your financial needs, this
financial planning process will provide a vehicle
for adapting to those changes. Regularly
reviewing this decision-making process will help
you make priority adjustments that will bring
your financial goals and activities in line with
your current life situation.

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Six Steps in the Financial Planning Process

The following steps make up the financial planning:

1. Establishing and defining the client-planner relationship - The

financial planner explains or documents the services to be provided and
defines his or her responsibilities along with the responsibilities of the
client. The planner explains how he or she will be paid and by whom. The
planner and client should agree on how long the relationship will last and
on how decisions will be made.
2. Gathering client data and determining goals and expectations - The
financial planner asks about the client's financial situation, personal and
financial goals and attitude about risk. The planner gathers all necessary
documents at this stage before giving advice.
3. Analyzing and evaluating the client's financial status - The financial
planner analyzes client information to assess his or her current situation
and determine what must be done to achieve the client's goals. Depending
on the services requested, this assessment could include analyzing the
client's assets, liabilities and cash flow, current insurance coverage,
investments or tax strategies.
4. Developing and presenting the financial planning recommendations
and/or alternatives - The financial planner offers financial planning
recommendations that address the client's goals, based on the information
the client provided. The planner reviews the recommendations with the
client to allow the client to make informed decisions. The planner listens to
client concerns and revises recommendations as appropriate.
5. Implementing the financial planning recommendations - The financial
planner and client agree on how recommendations will be carried out. The
planner may carry out the recommendations for the client or serve as a
"coach, " coordinating the process with the client and other professionals
such as attorneys or stockbrokers.
6. Monitoring the financial planning recommendations - The client and
financial planner agree upon who will monitor the client's progress toward
goals. If the planner is involved, he or she should report to the client
periodically to review the situation and adjust recommendations as

Exam Tips and Tricks

ld be well versed in the six steps of the financial planning process. Questions about where certain actions fit within the pr

Read more: Steps in the Financial Planning

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To develop a solid financial plan, it's important to cover all your bases. Heres

Examine your current situation

Set financial goals

Measure your progress

From start to finish, a CFP professional is required take you through the
financial planning process to help you achieve your financial goals.



financial planner is required to explain his or her financial planning services
and define each of your responsibilities. Along with compensation, you'll
discuss how long the professional relationship can last and how to make


should gather any necessary documents and talk to your planner about
your current financial situation. Together, you can define your personal and
financial goals, including timeframes. You may also want to discuss your
comfort level when it comes to taking financial risks.


CFP professional will consider all aspects of your situation to determine
what you need to do to meet your goals. Depending on what services
you've asked for, your planner may analyze your assets, liabilities and cash
flow, current insurance coverage, investments or tax strategies.
CFP professional will go over his or her financial recommendations,
explaining the rationale so you can make informed decisions. At this stage,
share any concerns with your planner so any recommendations can be
revised if necessary.

5. SET YOUR COURSE. You and your CFPprofessional need to agree on

how the recommendations will be carried out. Your planner may carry out
the recommendations or serve as your coach, coordinating the process
with you and other professionals, like attorneys or stockbrokers.


YOU ESTABLISHED. As you work toward your goals, you and your
CFPprofessional need to decide who monitors your progress so you stay
on track. If the planner is in charge, he or she will check in from time to
time, reviewing your situation and making any necessary adjustments to
his or her recommendations.
Financial Planning Process
Home>Financial Planning Process

The Personal Financial Planning Process

The Personal Financial Planning Process Identifies Financial Goals and Objectives And Creates
A Plan For Achieving Them

The financial planning process is very individual and personal. Financial planning
should focus on all the psychological and financial factors that may have an impact on
your financial goals and objectives. In short, personal financial planning provides you
with a long-term strategy for your financial future, taking into consideration every
aspect of your financial situation and how each affects your ability to achieve your goals
and objectives.
Personal financial planning can help you construct the foundation on which to build a
secure financial future. Through six distinct steps in the financial planning process,
financial planners help you:

1. Clarify your present situation by collecting the facts.

You will want to assess all relevant personal and financial data such as lists of assets and
liabilities, tax returns, record of securities transactions, insurance policies, wills, trusts,
pension plans, etc.
2. Decide where you want to be, financially.
This will require you to identify both personal and financial goals and objectives for you
and your family. Financial planners help you clarify personal and financial values and
attitudes. These may include family financial planning issues like providing for your
childrens college educations, supporting aging parents, or relieving immediate financial
pressures that would help maintain your current lifestyle and provide for retirement.
These considerations are as important as what is in your bank account in determining
your best strategy.
3. Identify financial problems that create barriers to you.
Problem areas can include too little or too much insurance, a big tax burden, inadequate
cash flow, or current investments that are losing the battle with inflation. These possible
problem areas must be identified before solutions can be found.

4. Provide a written financial plan.

The length of the financial plan document will vary with the complexity of your
individual situation. It should always be structured to meet your needs and objectives.
5. Implement agreed-upon recommendations from your plan.
A financial plan is only helpful if the recommendations are put into action. However, the
decision to implement, modify, or reject the recommendations presented in your plan
remains your sole responsibility. You may request that the planner assist in the
implementation of the agreed upon recommendations, including coordination with
other knowledgeable professionals as required. Or, you may implement the plan
6. Periodically review and revise your plan.
A financial plan can be no better than the data upon which it is based. Periodic reviews
and revisions of the plan are essential to account for changes in personal and economic
conditions. While this task may be accomplished without assistance, it is usually
advantageous to have financial planners provide these services for you.
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Home / About financial planning / How it works

How it works
Its important to make sure you are comfortable that your financial
planner has taken the time to understand your needs, goals and
preferences before they make any recommendations. Here is what you
can expect from the financial planning process.


Your financial planner should explain the process they will follow, find out your needs and make
sure they can meet them. You can ask them about their background, how they work and how
they charge.


You work with your financial planner to identify your short and long term financial goals this
stage serves as a foundation for developing your plan.

Your financial planner will take a good look at your position your assets, liabilities, insurance
coverage and investment or tax strategies.


Your financial planner recommends suitable strategies, products and services, and answers any
questions you have.


Once youre ready to go ahead, your financial plan will be put into action. Where appropriate,
your financial planner may work with specialist professionals, such as an accountant or solicitor.


Your circumstances, lifestyle and financial goals are likely to change over time, so its important
that your financial plan is regularly reviewed, to make sure you keep on track.