Vertical analysis is a fundamental accounting method used to analyze financial statements to help identify important trends and relationships. It is a measure used to compare various accounts, line items and components of a balance sheet to gain a more complete understanding of the financial data.

In vertical analysis, all accounts on the balance sheet are reduced to a 100 percent or dollar amount basis, enabling users to compare the relationship between the elements of a company’s financial statements within a single time period. This process is also frequently referred to as a common-size analysis.

Vertical analysis makes it easier to understand the correlation between single items on a balance sheet and the bottom line, expressed in a percentage. This means that a 10 percent decline in assets can be monitored to ensure assets are not decreasing at a faster rate than income. It allows analyst to track whether assets are being utilized efficiently, if income is properly covering expenses, and if the operating costs are rising at a proper rate.

Vertical analysis can become a more powerful tool when used in conjunction with horizontal analysis. Horizontal analysis is the practice of taking multiple financial numbers and measuring their changes over a specified amount of time. This is useful for benchmarking the performance of one period compared to a previous period. By using both vertical analysis and horizontal analysis together, entities can identify areas of strength and weakness, as well as determine whether a company’s finances are evolving for the better.

Vertical analysis is an invaluable tool in the hands of CFOs, analysts and investors alike, providing a cost-effective method and time-saving way to gain insight into a company’s financial position. It can be used when analyzing statements to ensure that the financial statements it produces are accurate and reliable. Additionally, it can be used to evaluate employee performance, compare financial statements of different companies to each other, and ensure that financial statements over time are compliant with the relevant regulations, standards and reporting frameworks.

In short, vertical analysis is an important method of financial analysis used to evaluate and compare financial statements. It is widely used by accountants and analysts to get a better understanding of the financial performance of a company and identify any areas that can be improved. By using vertical and horizontal analysis together, entities are able to access insights into their financial performance and the respective trends over a specific period of time, enabling informed decision making.