Title LM01 Introduction to Financial Statement Analysis IFT Notes.pdf ✅

LM01 Introduction to Financial Statement Analysis 2025 Level I Notes © IFT. All rights reserved 1 LM01 Introduction to Financial Statement Analysis 1. Introduction ........................................................................................................................................................... 2 2. Financial Statement Analysis Framework ................................................................................................. 2 3. Scope of Financial Statement Analysis ........................................................................................................ 3 4. Regulated Sources of Information ................................................................................................................ 4 5. Comparison of IFRS with Alternative Financial Reporting Systems ............................................... 7 6. Other Sources of Information ......................................................................................................................... 8 Summary ...................................................................................................................................................................10 Required disclaimer: IFT is a CFA Institute Prep Provider. Only CFA Institute Prep Providers are permitted to make use of CFA Institute copyrighted materials which are the building blocks of the exam. We are also required to create / use updated materials every year and this is validated by CFA Institute. Our products and services substantially cover the relevant curriculum and exam and this is validated by CFA Institute. In our advertising, any statement about the numbers of questions in our products and services relates to unique, original, proprietary questions. CFA Institute Prep Providers are forbidden from including CFA Institute official mock exam questions or any questions other than the end of reading questions within their products and services. CFA Institute does not endorse, promote, review or warrant the accuracy or quality of the product and services offered by IFT. CFA Institute®, CFA® and “Chartered Financial Analyst®” are trademarks owned by CFA Institute. © Copyright CFA Institute Version 1.0
LM01 Introduction to Financial Statement Analysis 2025 Level I Notes © IFT. All rights reserved 2 1. Introduction Financial analysis is the process of examining a company’s performance. For this purpose, financial reports are one of the most important sources of information available to a financial analyst. A financial analyst must have a strong understanding of the information provided in a company’s financial reports, notes, and supplementary information. 2. Financial Statement Analysis Framework A generic financial statement analysis framework is summarized in the figure below. The grey boxes represent phases of financial analysis while the white boxes represent outputs from each phase. Articulate the Purpose and Context of Analysis In this step, we understand the purpose of the analysis. For example, an equity analyst analyzes the financial reports in order to decide whether to invest in the stocks of the company or not. On the other hand, a credit analyst looks at the company in a very different light in order to judge whether it should be given a loan or not. Next, the analyst defines the context which includes details such as the intended audience, time frame, budget, and so on. Once the purpose and the context are defined, the analyst compiles the specific questions to be answered by the analysis, decides on the content to be prepared, and finalizes the timeline and the budget. Collect Data Next, the analyst collects data required to answer the questions compiled in the previous step. The sources of data are financial reports and other information sources. The output from this step includes organized financial statements, financial tables, and completed questionnaires.
LM01 Introduction to Financial Statement Analysis 2025 Level I Notes © IFT. All rights reserved 3 Process Data After collecting data, the analyst processes the data using appropriate analytical tools. This involves:  Making any adjustments to the financial statements to facilitate comparison. For example, adjustments will be required to compare a company using IFRS with a company using US GAAP.  Creating graphs, ratios, common-size statements, etc. The output from this step includes adjusted financial statements, common-size statements, ratios, graphs, and forecasts. Analyze/Interpret the Processed Data The next step is to interpret the processed data and come up with a decision. For example, an equity analyst may come up with a buy, sell, or hold decision. Develop and Communicate Conclusions/Recommendations Next, the analyst communicates the conclusions or recommendations in the appropriate format. For example, an equity analyst will prepare a research report and send it to his firm’s clients. Follow-up Conduct periodic reviews to check if the previous conclusions are still valid. Change the conclusions/recommendations when necessary. For example, an equity analyst may send quarterly updates on his initial buy, sell, or hold recommendation. 3. Scope of Financial Statement Analysis In order to understand financial analysis, we first need to understand the difference between the roles of financial reporting and financial statement analysis. Financial reporting The role of financial reporting is to provide information about a company’s performance (income statement and cash flow statement), financial position (balance sheet) and changes in financial position (statement of changes in equity). Financial statement analysis The role of financial statement analysis is to use the financial reports prepared by firms and combine them with other sources of information to decide if you can invest in the equity of the firm or lend money to the firm. 4. Regulated Sources of Information Standard-setting bodies Standard-setting bodies are private sector organizations that help develop financial
LM01 Introduction to Financial Statement Analysis 2025 Level I Notes © IFT. All rights reserved 4 reporting standards. The two important standard-setting bodies are:  Financial Accounting Standards Board (FASB) – For the U.S. The standards developed by FASB are called U.S. GAAP (Generally Accepted Accounting Principles).  International Accounting Standards Board (IASB) – For the rest of the world. The standards developed by IASB are called IFRS (International Financial Reporting Standards). Standard-setting bodies simply set the standards but they do not have the authority to enforce the standards. Regulatory Authorities Regulatory authorities are government entities that have legal authority to enforce the financial reporting standards. For example: Securities and Exchange Commission (SEC) – for the U.S. Regulatory authorities are also responsible for the regulation of capital markets under their jurisdiction. The International Organization of Securities Commissions (IOSCO) Technically not being a regulatory authority, IOSCO still regulates a significant portion of the world’s financial markets. (Think of it as an umbrella organization of regulatory authorities). This organization has established objectives and principles to guide securities and capital market regulation. Core objectives  Protect investors.  Ensure fairness, efficiency, and transparency in markets.  Reduce systemic risk. Principles  There should be full, accurate, and timely disclosure of financial results and risks.  Financial statements should be of a high and internationally acceptable quality. Primary Financial Statements Instructor’s Note: The financial statements mentioned below will be covered in a lot more detail in later readings. At this stage, you simply need to understand the basics. The curriculum presents this information in terms of SEC filings – e.g. Forms 10-K, 20-F, DEF-14A, 10-Q etc. You are not expected to memorize these forms. Also, exam questions are unlikely to test country-specific regulations. For these reasons, we have simplified the explanation in this section for better comprehension. The primary financial statements are the balance sheet, the income statement, the cash flow