Horizontal analysis

What it means

Horizontal analysis compares items in the financial statements over time. For each line of the balance sheet or the profit and loss statement, the change against the previous period is worked out both in absolute terms and as a percentage. The name comes from comparing figures horizontally, along the row.

Its strength is simplicity. At a glance it shows which items are growing faster than sales and which are falling. If sales rose by ten per cent but receivables by forty, the company is probably selling on longer terms or struggling to collect.

Together with vertical analysis, which looks at structure, it forms the basis of financial analysis. Horizontal analysis answers “what has changed”, vertical analysis “how is it made up”.

How it works in practice

In annual reporting for clients we compare at least three years, because one year-on-year jump may be chance. Monthly figures are compared with the same month last year to strip out seasonality.

The real value lies in the commentary. Energy costs halving is a number; the explanation that the supplier changed and the price was fixed for a year is information. So with larger changes we always look for the cause in the accounting records.

Banks run horizontal analysis automatically on loan applications. If a company can explain significant changes in advance, such as a one-off gain on an asset sale or an exceptional cost, negotiations go more smoothly.

What to watch out for

Percentage changes in small items mislead. A rise from one thousand to three thousand euro is two hundred per cent, but for a company turning over millions it is insignificant. Attention belongs mainly on large items and large absolute changes.

Only like can be compared with like. A change in accounting method, costs moved between lines or a change in the length of the accounting period create changes that are not real. They should be adjusted before the analysis or at least clearly flagged.