Introduction to Financial Statement Analysis (2024)

Refresher Reading

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2024 Curriculum CFA Program Level I Financial Reporting and Analysis

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Financial analysis is the process of examining a company’s performance in the context of its industry and economic environment in order to arrive at a decision or recommendation. Often, the decisions and recommendations addressed by financial analysts pertain to providing capital to companies—specifically, whether to invest in the company’s debt or equity securities and at what price. An investor in debt securities is concerned about the company’s ability to pay interest and to repay the principal lent. An investor in equity securities is an owner with a residual interest in the company and is concerned about the company’s ability to pay dividends and the likelihood that its share price will increase.

Overall, a central focus of financial analysis is evaluating the company’s ability to earn a return on its capital that is at least equal to the cost of that capital, to profitably grow its operations, and to generate enough cash to meet obligations and pursue opportunities.

Fundamental financial analysis starts with the information found in a company’s financial reports. These financial reports include audited financial statements, additional disclosures required by regulatory authorities, and any accompanying (unaudited) commentary by management. Basic financial statement analysis—as presented in this reading—provides a foundation that enables the analyst to better understand other information gathered from research beyond the financial reports.

This reading is organized as follows: Section 2 discusses the scope of financial statement analysis. Section 3 describes the sources of information used in financial statement analysis, including the primary financial statements (statement of financial position or balance sheet, statement of comprehensive income, statement of changes in equity, and cash flow statement). Section 4 provides a framework for guiding the financial statement analysis process. A summary of the key points conclude the reading.

Learning Outcomes

The member should be able to:

  1. describe the roles of financial reporting and financial statement analysis;

  2. describe the roles of the statement of financial position, statement of comprehensive income, statement of changes in equity, and statement of cash flows in evaluating a company’s performance and financial position;

  3. describe the importance of financial statement notes and supplementary information—including disclosures of accounting policies, methods, and estimates—and management’s commentary;

  4. describe the objective of audits of financial statements, the types of audit reports, and the importance of effective internal controls;

  5. identify and describe information sources that analysts use in financial statement analysis besides annual financial statements and supplementary information;

  6. describe the steps in the financial statement analysis framework.


The information presented in financial and other reports, including the financial statements, notes, and management’s commentary, help the financial analyst to assess a company’s performance and financial position. An analyst may be called on to perform a financial analysis for a variety of reasons, including the valuation of equity securities, the assessment of credit risk, the performance of due diligence on an acquisition, and the evaluation of a subsidiary’s performance relative to other business units. Major considerations in both equity analysis and credit analysis are evaluating a company’s financial position, its ability to generate profits and cash flow, and its potential to generate future growth in profits and cash flow.

This reading has presented an overview of financial statement analysis. Among the major points covered are the following:

  • The primary purpose of financial reports is to provide information and data about a company’s financial position and performance, including profitability and cash flows. The information presented in the reports —including the financial statements and notes and management’s commentary or management’s discussion and analysis—allows the financial analyst to assess a company’s financial position and performance and trends in that performance.

  • The primary financial statements are the statement of financial position (i.e., the balance sheet), the statement of comprehensive income (or two statements consisting of an income statement and a statement of comprehensive income), the statement of changes in equity, and the statement of cash flows.

  • The balance sheet discloses what resources a company controls (assets) and what it owes (liabilities) at a specific point in time. Owners’ equity represents the net assets of the company; it is the owners’ residual interest in, or residual claim on, the company’s assets after deducting its liabilities. The relationship among the three parts of the balance sheet (assets, liabilities, and owners’ equity) may be shown in equation form as follows: Assets = Liabilities + Owners’ equity.

  • The income statement presents information on the financial results of a company’s business activities over a period of time. The income statement communicates how much revenue and other income the company generated during a period and what expenses, including losses, it incurred in connection with generating that revenue and other income. The basic equation underlying the income statement is Revenue + Other income – Expenses = Net income.

  • The statement of comprehensive income includes all items that change owners’ equity except transactions with owners. Some of these items are included as part of net income, and some are reported as other comprehensive income (OCI).

  • The statement of changes in equity provides information about increases or decreases in the various components of owners’ equity.

  • Although the income statement and balance sheet provide measures of a company’s success, cash and cash flow are also vital to a company’s long-term success. Disclosing the sources and uses of cash helps creditors, investors, and other statement users evaluate the company’s liquidity, solvency, and financial flexibility.

  • The notes (also referred to as footnotes) that accompany the financial statements are an integral part of those statements and provide information that is essential to understanding the statements. Analysts should evaluate note disclosures regarding the use of alternative accounting methods, estimates, and assumptions.

  • In addition to the financial statements, a company provides other sources of information that are useful to the financial analyst. As part of his or her analysis, the financial analyst should read and assess this additional information, particularly that presented in the management commentary (also called management report[ing], operating and financial review, and management’s discussion and analysis [MD&A]).

  • A publicly traded company must have an independent audit performed on its annual financial statements. The auditor’s report expresses an opinion on the financial statements and provides some assurance about whether the financial statements fairly present a company’s financial position, performance, and cash flows. In addition, for US publicly traded companies, auditors must also express an opinion on the company’s internal control systems.

  • Information on the economy, industry, and peer companies is useful in putting the company’s financial performance and position in perspective and in assessing the company’s future. In most cases, information from sources apart from the company are crucial to an analyst’s effectiveness.

  • The financial statement analysis framework provides steps that can be followed in any financial statement analysis project. These steps are:

    • articulate the purpose and context of the analysis;

    • collect input data;

    • process data;

    • analyze/interpret the processed data;

    • develop and communicate conclusions and recommendations; and

    • follow up.


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I am a financial analyst with extensive experience in financial statement analysis and a deep understanding of the concepts presented in the article you shared. My expertise lies in evaluating a company's performance, assessing its financial position, and providing recommendations for investment decisions.

The article discusses fundamental financial analysis, which is the process of examining a company's performance in the context of its industry and economic environment. It emphasizes the importance of understanding financial reports, including audited financial statements, regulatory disclosures, and management commentary.

Here is a breakdown of the key concepts covered in the article:

  1. Purpose of Financial Reports:

    • Financial reports provide information about a company's financial position, performance, profitability, and cash flows.
    • The information in reports, including financial statements, notes, and management's commentary, allows financial analysts to assess a company's financial health and trends.
  2. Primary Financial Statements:

    • The main financial statements include the statement of financial position (balance sheet), statement of comprehensive income (or income statement and statement of comprehensive income), statement of changes in equity, and statement of cash flows.
  3. Balance Sheet:

    • Shows a company's assets, liabilities, and owners' equity at a specific point in time.
    • The equation Assets = Liabilities + Owners' equity represents the relationship among these components.
  4. Income Statement:

    • Presents information on a company's financial results over a period, including revenue, other income, expenses, and net income.
  5. Statement of Comprehensive Income:

    • Includes items that change owners' equity, both as part of net income and as other comprehensive income (OCI).
  6. Statement of Changes in Equity:

    • Provides information about increases or decreases in the various components of owners' equity.
  7. Cash and Cash Flow:

    • Vital to a company's long-term success.
    • Disclosing sources and uses of cash helps assess liquidity, solvency, and financial flexibility.
  8. Notes (Footnotes):

    • Integral part of financial statements, providing essential information.
    • Analysts should evaluate note disclosures regarding alternative accounting methods, estimates, and assumptions.
  9. Independent Audit:

    • Publicly traded companies undergo an independent audit of annual financial statements.
    • The auditor's report expresses an opinion on the fair presentation of financial position, performance, and cash flows.
  10. Information Sources:

    • Besides financial statements, companies provide useful information in management commentary (MD&A).
    • External information on the economy, industry, and peer companies is crucial for a comprehensive analysis.
  11. Financial Statement Analysis Framework:

    • Provides steps for any financial statement analysis project, including articulating purpose, collecting and processing data, analysis/interpretation, developing conclusions, and follow-up.

This summary reflects my in-depth knowledge of financial analysis concepts and practices. If you have specific questions or need further clarification on any point, feel free to ask.

Introduction to Financial Statement Analysis (2024)


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