Financial Statement Analysis is a method of reviewing and analyzing a company’s accounting reports (financial statements) in order to gauge its past, present or projected future performance. This process of reviewing the financial statements allows for better economic decision making.
Globally, publicly listed companies are required by law to file their financial statements with the relevant authorities. For example, publicly listed firms in America are required to submit their financial statements to the Securities and Exchange Commission (SEC). Firms are also obligated to provide their financial statements in the annual report that they share with their stakeholders. As financial statements are prepared in order to meet requirements, the second step in the process is to analyze them effectively so that future profitability and cash flows canbe forecasted.Therefore, the main purpose of financial statement analysis is to utilize information about the past performance of the company in order to predict how it will fare in the future. Another important purpose of the analysis of financial statements is to identify potential problem areas and troubleshoot those problems.
There are different users of financial statement analysis. These can be classified into internal and external users. Internal users refer to the management of the company who analyzes financial statements in order to make decisions related to the operations of the company. On the other hand, external users do not necessarily belong to the company but still hold some sort of financial interest. These include owners, investors, creditors, government, employees, customers, and the general public.The managers of the company use their financial statement analysis to make intelligent decisions about their performance. For instance, they may determine cost per distribution channel, or how much cash they have left, from their accounting reports and make decisions from these analysis results.
Small business owners need financial information from their operations to determine whether the business is profitable. It helps in making decisions like whether to continue operating the business, whether to improve business strategies or whether to give up on the business altogether.
People who have purchased stock or shares in a company need financial information to analyze the way the company is performing. They use financial statement analysis to determine what to do with their investments in the company. So depending on how the company is doing, they will either hold onto their stock, sell it or buy more.
Creditors are interested in knowing if a company will be able to honor its payments as they become due. They use cash flow analysis of the company’s accounting records to measure the company’s liquidity, or its ability to make short-term payments.
Governing and regulating bodies of the state look at financial statement analysis to determine how the economy is performing in general so they can plan their financial and industrial policies. Tax authorities also analyze a company’s statements to calculate the tax burden that the company has to pay. Employees need to know if their employment is secure and if there is a possibility of a pay raise. They want to be abreast of their company’s profitability and stability. Employees may also be interested in knowing the company’s financial position to see whether there may be plans for expansion and hence, career prospects for them. Customers need to know about the ability of the company to service its clients into the future. The need to know about the company’s stability of operations is heightened if the customer (i.e. a distributor or procurer of specialized products) is dependent wholly on the company for its supplies.
Anyone in the general public, like students, analysts and researchers, may be interested in using a company’s financial statement analysis. They may wish to evaluate the effects of the firm on the environment, or the economy or even the local community. For instance, if the company is running corporate social responsibility programs for improving the community, the public may want to be aware of the future operations of the company.
Analysis of financial statement is meant to be comprehensive and relevant just to mention a few. To ensure that this is the case, there are two methods of financial analysis; the horizontal analysis, vertical analysis trend analysis, ratio analysis.
Manufacturing companies have a nature that requires a great deal of record keeping based on accounting principles and the ever changing accounting standards. It is clear that proper analyses of financial statement are important in any organization. Nevertheless, one can not dispute the fact that with each method of analysis there is an underlying factor that hinders the comparability of records.Thus, the problem at hand is the scheme of window dressing which an investor has to be on the lookout for If he wants to make a good investment decision. Window dressing is referred to as cosmetic financial reporting or creative accounting. It is a situation whereby the financial statements are reported to deliberately or intentionally falsify the accounts with the aim of overstating the performance of a business. This could mislead a potential investor into a non profitable investment decision. Proper financial analysis will open the eye of not just the investor but also other users of such information. They will be able to detect the loopholes and see a misleading financial statement for what it is.
This study aims at explaining the effects of financial statement analysis on investment decision making in manufacturing industries. With that being said, it is befitting to say that anything outside from a proper financial statement is a problem to investors and users of accounting information. Thus window dressing aims at destroying the essence of a proper financial statement, thereby making room for unprofitable or unfavorable investment decision making.
The broad objective of his study is to analyze the effect of financial analysis on investment decision.
Specific objectives are to;
- Investigate the effect of profitability ratioon expansion of existing business.
- Analyze the effect of profitability ratio on establishing of new business.
- Assess the effect of activities ratio on replacement and modernization.
1.4 RESEARCH QUESTIONS
- How does profitability ratio contribute to the expansion of an existing business?
- What is the importance of profitability ratiotoward the expansion of a new business
- How can activities ratio help in reducing cost of replacement and modernization in an organization?
1.5 RESEARCH HYPOTHESIS
The hypothesis to be tested is the null hypothesis (H0);
H01–profitability ratio has no significant effect on expansion of existing business
H02-profitability ratio has no significant effect on establishment of a new business
Ho3–activities ratio has no significant effect on reducing cost of replacement and modernization in an organization.
The need for the study of financial analysis and investment decision in manufacturing companies cannot be over emphasized. This study will benefit investors to help them know if they are to buy more stock, retain the ones they have purchased or withdraw from further investments. It will also benefit the creditors because through financial analysis they are able to determine the cash flow of the firm in order to know when to lend or when to ask for payment. It will also benefit the government, especially at this time when businesses in the country are facing hardship. Thus, more investment and development of funds are required to stimulate the economy.
The study will in turn benefit the general public, for example, researchers who want to understand the concept of financial analysis. They can better understand the use of each method of financial analysis and apply it to their work or for further studies.
This study is restricted to financial analysis and its contribution to investment decision in manufacturing companies. The aspect to cover in this study is relevant financial statements and how they are analyzed to serve its users. This study has employed some prominent manufacturing industries in the country: Dangote Group of Companies (Dangote cement factory). This study covers a period of ten years (2010-2017) employing records from the company’s statement of comprehensive income.
Both financial and time constraints were seriously encountered during this research. Computational procedures of various accounting information or tools are outside the scope of the work. However, those deemed necessary may be treated.
Honest efforts are being made to have a worthwhile study with sufficient validity and reliability. This work should not in any way be viewed as final solution to the effect of financial analysis on investment decision making process in a manufacturing industry. There are limitations on resources for reference purposes.
Although there were challenges during the course of this study the researcher was able to overcome them through the financial contributions of family and resources were made accessible by consultations with the supervisor. The internet remains a great help in each aspect of difficulty.