Purpose of Conducting Financial Analysis

Financial analysis is the process of evaluating businesses, projects, budgets, and other finance-related transactions to determine their performance and suitability, to determine their financial health and to identify opportunities for improvement.

Areas to Examine

There are three (3) main areas to examine.

1. Year over year % change to determine the direction that performance is heading in (up or down and by how much), including (for example):
   1. Year over year % change in Revenue
   2. Year over year % change in Operating Profit and/or Operating Costs
   3. Year over year % change in Net Profit
   4. Calculated as ($Year 2 - $Year1)/$Year 1 X100
2. Margin analysis to determine a company's operating efficiency and profitability, including (for example):
   1. Net Profit Margin as % of Revenue
   2. Operating Margin or Operating Costs as a % of Revenue
   3. Overhead as a % of Revenue
   4. Calculated as $Margin/$Revenue X 100
3. Profitability Return Ratios to determinehow well a company can generate profits from its operations, including (for example):
   1. % Return on assets,
   2. % Return on equity,
   3. % Return on investment
   4. Calculated as $Net Profit/$Assets, or $Net Profit/$Equity, or $Net Profit/$Investment

Breakeven Analysis

A break-even analysis is a financial calculation that weighs the costs of a new business, service or product against the unit selling price to determine the point at which you will break even. In other words, it reveals the point at which you will have sold enough units to cover all of your costs. At that point, you will have neither lost money nor made a profit.

1. Calculation of Breakeven Point in Quantity or Units: Total $Fixed Costs / (Sales price per unit - Variable cost per unit)
2. Calculation of Breakeven point in $ Sales or Revenue: Breakeven Point in Units X Average $Selling Price/Unit.

Payback Period

Payback period is defined as the time (number of years, months weeks or days) required to recover the original cash investment on a project, product or initiative that requires an upfront investment of cash or capital. It is the time at the end of which a project, product or initiative or other investment has produced sufficient net revenue to recover its investment costs.

The payback period is calculated by dividing the cost of the investment by the annual cash flow or net margin until the cumulative cash flow or net margin is positive, which is the payback time.