How to Conduct Effective Financial Analysis For your Business
When it comes to business growth, a successful business strategy focuses on long-term financial health with regular analysis of the finance model, forecasting future opportunities, and reviewing past performance.
Whether you are handling a local startup or an international business, financial analysis is a great way to know about the project’s scalability in terms of profit and loss. It is best to assign the work to a financial analyst within your finance team who can handle a range of tasks & processes.
Starting from comparing actual results with budgets, to ensuring a financial balance, the financial analyst would help you carry out monthly operational reviews to generate relevant data. But, are you wondering what financial analysis is or how to conduct it? In this guide, you will get to know how to perform financial analysis precisely with every step it involves.
What is Financial Analysis?
Financial analysis is the evaluating process to determine the performance & suitability of business projects, budgets, and other finance-related transactions. Financial analysis is used to analyze the stability, solvency, liquidity, or profitability of an entity to provide small businesses with the data they need to make informed decisions.
This helps a company understand where it stands financially to plan for the short- and long-term future.
Financial Analysis Basics for Small Businesses
Small businesses should analyze their finances once a week. Oftentimes, business leaders monitor and understand the financial health of their business & successful growing companies.
According to the study of the federal reserve, 78% and 92% of companies have above-average to excellent financial health respectively with an annual income of at least $1 million.
On the other hand, businesses with poor financial health were 40% and had revenue less than $100,000.
As a matter, about 90% of financially stable organizations always build a budget and have a separate bank account for payroll, compared to 5% of those with poor financial health.
5 Effective Ways to Perform Financial Analysis for Your Business
Here is a five-step process to perform a strategic analysis of financial statements.
1. Comparison between Forecast and Actual Monthly Results
Reviewing your business finances on a regular basis is good to start with. However, to get the most out of your financial analysis, you’ll need to compare forecast and actual results.
Compare your plan in a monthly meeting with your key staff. Make your forecast handy as well as reports from your accounting software to do a proper comparison between the two and track your progress.
2. Identify your exceeding projections or off-track performance
Doing forecasting means you’re making educated predictions. That means, your actual financial performance of the month might vary. So, identify whether you outperformed and exceeded your projections or find out when you were off track and haven’t performed as expected.
3. Review your Income and Expenses
The income and expenses statement is also known as the Profit and Loss statement. While comparing your income statement to your forecast, you’ll know whether you’ve achieved your goals, sales number, and keeping your expenses within the budget.
Income and expenses statements make your analysis easy by displaying your actual data and digging into what is and isn’t working for your business. Thus, you make further business decisions in a more productive way towards future growth.
4. Analyze your cash flow statement
Analyzing cash flow will help you know where your cash has flowed or is spent into and out of your business.
Comparing this statement to your cash flow forecast will tell you if you’re on track or why you might be off track. It can guide you to make decisions while growing your bank balance the way you planned it.
5. Review your balance sheet
The balance sheet will help you give a complete overview of your financial position.
What assets does your business have or how much money do you owe? The balance sheet can give you more clarity on your queries.
In a financial analysis process, your balance sheet analysis will help you understand if you’re collecting money from your customers at the right rate, and if you’re taking on more debt than planned.
1. Why Do I Need to Conduct a Financial Analysis?
Ans. A study by the federal reserve shows that financially healthy small businesses focus on strong experience with various types of credits, keep their unused credit balances high, and create a budget more often.
There are a few factors and metrics to track in your analysis process including profitability, cash flow cycle, working capital requirements, liquid assets, credit to fund operations, and personal credit score.
2. What are the key components of Financial Analysis?
Ans. There are about five key elements of financial analysis that include Liquidity, Capital Efficiency & Solvency, Operational Efficiency, Profits, and Revenues.
3. How to Use Financial Analysis Findings?
Ans. Financial analysis findings are profitability, efficiency, liquidity, and other important metrics that help small businesses to dig into the numbers and each metric in order to create financial reports and make sales forecasts. You can use these findings to further make informed financial decisions about when to hire people, buy more inventory, scale back, and more.
4. How does comparing my financial plan to my actual results can help?
Ans. Without comparing your financial plan to your actual results, it’s difficult to find out whether your business performance was good or bad. Thus, compare your actual results against plans to know if you’re meeting your sales goals, keeping spending within your budget, and making the right decisions on investments.