Vertical Analysis of Income Statement

What is Vertical Analysis of Income Statement?

Vertical Analysis refers to the analysis of the Income Statement where all the line item which are present in company’s income statement are listed as a percentage of the sales within such statement and thus helps in analyzing the company’s performance by highlighting that whether it is showing upward or downward trend.

Vertical Analysis of Colgate’s Income Statement

Let us see the example of a vertical analysis of Colgate’s Income Statement. In the below snapshot, we have divided each income statement line item with Net Sales for the period between 2007 to 2015.

Vertical Analysis of Colgate Income Statement

Interpretation

Examples of Vertical Analysis of Income Statement

Let’s see some examples of vertical analysis of an income statement to understand it better.

Example #1

Consider the following example of an income statement of the XYZ Company:

Year 1Year 2Year 3
Sales$3,50,000$4,25,000$5,00,000
Cost of Goods Sold$1,00,000$1,35,000$1,70,000
Gross Profit$2,50,000$2,90,000$3,30,000
Salaries$95,000$98,000$1,00,000
Rent and Utilities$30,000$35,000$40,000
Marketing$20,000$25,000$30,000
Other Expenses$10,000$12,000$15,000
Total Expenses$1,55,000$1,70,000$1,85,000
Net Income$95,000$1,20,000$1,45,000

If we divide each line item for the year with the sales for that year, the common size analysis of the income statementIncome StatementThe income statement is one of the company's financial reports that summarizes all of the company's revenues and expenses over time in order to determine the company's profit or loss and measure its business activity over time based on user requirements.read more of the Company will look like:

Year 1Year 2Year 3
Sales100%100%100%
Cost of Goods Sold29%32%34%
Gross Profit71%68%66%
Salaries27%23%20%
Rent and Utilities9%8%8%
Marketing6%6%6%
Other Expenses3%3%3%
Total Expenses44%40%37%
Net Income27%28%29%

Interpretation

By converting each number by the sales number for the year, the comparison between the line items over the years is easy.

Example #2

Let us look at another example: the income statement of Apple Inc.

consolidated statements of operations

Source: Apple SEC filings

If we convert the above into common size analysis of income statementCommon Size Analysis Of Income StatementCommon Size Income Statement is a Company’s financial statement that presents every listed line item as a percentage of total revenue or sales. Moreover, it helps analyze the contribution of every item towards the profitability of the Company. read more, it will look like the following:

Common size analysis

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For eg:
Source: Vertical Analysis of Income Statement (wallstreetmojo.com)

Vertical Analysis of Income Statement Interpretation

  • All the numbers are more or less the same with a difference in the range of 1%-2% over the years
  • The net income of the Company has increased from 2016 to 2018 by 1.5%
  • The Companies expense on research and development has increased by nearly 1% as a percentage of net sales

Advantages

Limitations

Conclusion

Vertical Analysis of the income statement shows the revenue or sales number as 100% and all other line items as a percentage of sales. All the line items in a vertical analysis are compared with another line item on the same statement; in the case of an income statement, it is revenue/net sales.

The common size or vertical analysis of income statement is the statement where each line item is expressed as a percentage of sales. The comparison of each number becomes easier when compared as a percentage of sales/revenue. While such an analysis is helpful for the analysts to compare the performance of the Company over the years or two Companies in the same sector and line of business, but it has its own limitations. Thus, the analysis should take into account the limitations of the vertical analysis of the income statement while comparing and inferring the results.

This article has been a guide to what is Vertical Analysis of Income Statement. Here we discuss how to do a Vertical analysis of an Income Statement, its interpretation, examples, advantages & disadvantages & limitations. You can learn more about financial analysis from the following articles-

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