Common-size Financial Statement
Common size financial statements are different from the customary financial statements. Where the traditional financial statements are used for the reporting purposes and to report the monetary position of the company, the common size financial statements are used for the decision-making purposes. If an investor wants to compare the financial statements of two companies, there have to be some sort of scale to overcome the limitations of the comparisons and match the two unrelated business for investment purposes. Since the sizes of companies are not same, this usually leads to misleading and wrongful comparisons that affect the investments of the investors.
To overcome these problems, many methods of comparing the financial statements of different size of companies were devised. Two most notable methods with which an investor can compare the financial statements of the company are:
- Use of the ratio analysis
- Use of trends
- Use of common-size financial statements
Use of common-size financial statements:
With the use of this method of common-size financial statements, the comparisons between the financial statements of different companies become easy. In this method, each of figures in the financial statements is reported in the form of percentage. This percentage is the figure of one frequent base figure. This base figure determines the percentile of all the figures in the common-size financial statements. By using this method, it is easy to compare the financial statements of the same company from different periods or comparing the companies of different size. Due to this method, the bias between the company sizes is removed, and investor can effectively compare the financial statements. The selection of base figure depends on the financial statements' head. In income statements, the revenue can be selected as the base figure and all the incomes and expenses can be measured against it.
Moreover, in the balance sheet of the company, all the related items are divided by the total of their items. For example, if the investor wants to find out the percentage of the inventory in balance sheet, he or she will have to divide the figure of inventory with the total assets.