Title: Common‑Size Financial Statements — a clear explainer
Definition
A common‑size financial statement restates each line item on a financial statement as a percentage of a chosen base number. Converting dollars to percentages makes it easier to compare companies of different sizes and to track changes over time.
How it works (formula)
Percentage for a line item = (line item amount / chosen base amount) × 100
Which base to use depends on the statement:
– Income statement: express every line as a percent of sales (revenue).
– Balance sheet: most commonly express asset line items as a percent of total assets. Another approach is to show liabilities as a percent of total liabilities and equity as a percent of total equity.
– Cash flow statement: you can express every line as a percent of total cash flow, or more commonly show each operating, investing, and financing item as a percent of its respective section total.
Why use common‑size statements
– Remove size differences so you can compare firms across scale and sectors.
– Reveal structural drivers of profit (for example, what share of sales is absorbed by cost of goods sold).
– Make trend analysis clearer when looking at percentage changes across periods.
Checklist: how to prepare one
1. Choose the financial statement and reporting period(s) you want to analyze.
2. Select the appropriate base (sales for income statement; total assets for balance sheet; section totals or total cash flow for cash flows).
3. For each line item, divide the dollar amount by the chosen base and multiply by 100 to get a percentage.
4. Keep formatting consistent across all companies/periods you compare.
5. Note any non‑recurring items or accounting differences that could distort comparisons.
6. Use the common‑size view together with absolute figures (dollars) — percentages remove scale but not the importance of size.
Small numeric example (income statement)
Assume a company reports:
– Sales (revenue): $100,000
– Cost of goods sold (COGS): $50,000
– Taxes: $1,000
– Net income: $49,000
Convert to common‑size percentages (base = Sales = $100,000):
– Sales: 100,000 / 100,000 = 1.00 → 100%
– COGS: 50,000 / 100,000 = 0.50 → 50%
– Taxes: 1,000 / 100,000 = 0.01 → 1%
– Net income: 49,000 / 100,000 = 0.49 → 49%
Interpretation: in this example, half of sales are used to cover direct costs; nearly half of sales remain as net income.
Practical notes and limitations
– Common‑size analysis highlights structure but hides absolute size; a company with 49% net margin at $100,000 revenue is very different from one with the same margin at $1 billion revenue.
– One‑time gains/losses or differences in accounting policies can distort percentage comparisons — adjust or annotate when necessary.
– Use common‑size statements alongside ratio analysis and absolute dollar review for a fuller picture.
Further reading (reputable sources)
– Investopedia — Common‑Size Financial Statement: https://www.investopedia.com/terms/c/commonsizefinancialstatement.asp
– U.S. Securities and Exchange
Commission (SEC) — https://www.sec.gov/
– Financial Accounting Standards Board (FASB) — https://www.fasb.org/
– CFA Institute — https://www.cfainstitute.org/
– IFRS Foundation — https://www.ifrs.org/
Quick checklist: how to prepare and use common‑size statements
1. Select the financial statement: income statement (vertical base = total revenue) or balance sheet (vertical base = total assets).
2. Choose the period(s) and peer set for comparison.
3. Extract line‑item dollar amounts (use consistent accounting policies).
4. Convert each line item to percentage: (line item / base) × 100.
5. Present results in a table or chart for time series or peer comparison.
6. Annotate one‑time items, accounting changes, and currency effects.
7. Combine with ratio and absolute‑value analysis before drawing conclusions.
Formula summary
– Common‑size % (income statement) = (line item / total revenue) × 100
– Common‑size % (balance sheet) = (line item / total assets) × 100
– Year‑over‑year % change (horizontal analysis) = [(current − prior) / prior] × 100
Worked examples
A. Balance sheet common‑size (vertical) — numeric example
Balance sheet total assets = $800,000.
– Cash: $40,000 → (40,000 / 800,000) × 100 = 5.0%
– Accounts receivable: $80,000 → 10.0%
– Inventory: $120,000 → 15.0%
– Property, plant & equipment (PP&E): $320,000 → 40.0%
– Other assets: $240,000 → 30.0%
Interpretation: PP&E is a large share (40%), suggesting capital intensity; cash of
5% indicates modest liquidity; the firm is not hoarding cash. The 30% in “other assets” is sizeable and should be disaggregated (e.g., deferred tax assets, long‑term receivables, intangibles) to understand composition and risk. Overall, the common‑size view shows capital intensity (high PP&E) and a need to check asset liquidity and off‑balance‑sheet items.
B. Income statement common‑size (vertical) — numeric example
Assume total revenue (sales) = $1,000,000 for the year.
– Cost of goods sold (COGS): $600,000 → (600,000 / 1,000,000) × 100 = 60.0%
– Gross profit: $400,000 → 40.0%
– Selling, general & administrative (SG&A): $200,000 → 20.0%
– Operating income: $200,000 → 20.0%
– Interest expense: $20,000 → 2.0%
– Pre‑tax income: $180,000 → 18.0%
– Income tax expense: $40,000 → 4.0%
– Net income: $140,000 → 14.0%
Interpretation: COGS at 60% of revenue implies a 40% gross margin. SG&A at 20% leaves a 20% operating margin. Compare these margins to peers and industry averages to judge efficiency and pricing power.
C. Year‑over‑year (horizontal) example — numeric example
Compare current year to prior year numbers.
– Revenue: prior $900,000 → current $1,000,000
Year‑over‑year change = (1,000,000 − 900,000) / 900,000 × 100 = 11.11%
– COGS: prior $540,000 → current $600,000
Change = (600,000 − 540,000) / 540,000 × 100 = 11.11%
– Net income: prior $120,000 → current $140,000
Change = (140,000 − 120,000) / 120,000 × 100 = 16.67%
Interpretation: Revenue and COGS grew at the same rate, so gross margin is unchanged; net income grew faster, suggesting lower relative interest/tax burdens or improved operating leverage.
Step‑by‑step checklist for doing common‑size analysis
1. Obtain consistent statements (same accounting standards and currency).
2. Choose base line: total revenue for income statements; total assets for balance sheets.
3. Convert each line item to a percentage of the base. Use at least two decimal places for precision.
4. Prepare horizontal (YOY) percentage changes for trend detection.
5. Compare with peers and industry averages (same fiscal period).
6. Flag large or growing percentages and disaggregate where needed (e.g., “other” or non‑recurring items).
7. Combine with ratio analysis (liquidity, leverage, profitability) before drawing conclusions.
8. Document assumptions and any accounting policy changes.
Common pitfalls and limitations
– Scale concealment: percentages hide absolute size. A 10% gross margin on $10 million revenue ≠ 10% on $10 billion.
– Non‑recurring items: one‑time gains/losses can distort percentages; remove or annotate them for comparability.
– Accounting differences: revenue recognition, inventory methods (FIFO/LIFO), and lease accounting affect comparability.
– Seasonality: use trailing‑12‑month (TTM) or seasonal adjustments for firms with seasonal sales.
– Currency effects: convert foreign subsidiaries consistently; exchange rates can distort comparisons.
Practical tips
– Always inspect the notes to the financial statements to explain unusual percentages (e.g., large R&D capitalization, impairment, deferred taxes).
– Use both vertical and horizontal analyses together: vertical shows structure; horizontal shows dynamics.
– For peer comparisons, normalize for size differences by using percentages and consider median industry margins, not just a single competitor.
– Automate repeated analysis in a spreadsheet: compute percentages once, then refresh with new input values each period.
Worked‑through mini example (combining vertical + horizontal)
Company X income statement (prior vs. current)
– Revenue: prior $500,000 → current $600,000 (YOY +20.0%)
– COGS: prior $300,000 → current $360,000 (YOY +20.0%) → COGS % = 60.0% (unchanged)
– SG&A: prior $100
– SG&A: prior $100,000 → current $110,000 (YOY +10.0%) → SG&A % = prior 20.0% → current 18.3% (110,000/600,000 = 18.33%)
– Gross profit: prior $200,000 → current $240,000 (YOY +20.0%) → Gross margin = prior 40.0% → current 40.0%
– Operating income: prior $100,000 → current $130,000 (YOY +30.0%) → Operating margin = prior 20.0% → current 21.7%
– Interest expense: prior $10,000 → current $12,000 (YOY +20.0%) → Interest % = prior 2.0% → current 2.0%
– Pretax income: prior $90,000 → current $118,000 (YOY +31.1%) → Pretax margin = prior 18.0% → current 19.7%
– Income tax (assume 25%): prior $22,500 → current $29,500
– Net income: prior $67,500 → current $88,500 (YOY +31.1%) → Net margin = prior 13.5% → current 14.8%
Interpretation (combine vertical + horizontal)
– Revenue grew 20% year‑over‑year; COGS grew the same 20%, so gross margin stayed stable at 40%. That implies no gross‑margin deterioration or improvement.
– SG&A rose only 10% while revenue rose 20%, so SG&A as a percent of revenue fell from 20% to 18.3%. This is operating leverage: fixed or slower‑growing operating costs boosted operating income (up 30%) and margins.
– Interest expense rose with scale (20%), leaving interest as a percent of revenue unchanged. Pretax and net margins improved because operating income grew faster than interest and taxes.
– The combined view shows profitable scaling: revenue growth plus controlled SG&A increased profitability. But check notes for one‑time items (e.g., a nonrecurring gain could mimic this pattern).
Step‑by‑step checklist to reproduce this analysis in a spreadsheet
1. Set up rows for each line item (Revenue, COGS, Gross Profit, SG&A, Operating Income, Interest, Pretax, Taxes, Net Income).
2. Put prior period values in column A and current period values in column B.
3. Compute horizontal change % in column C with formula: (B – A) / A. Format as percent.
4. Compute vertical percent of revenue in columns D (prior) and E (current) with formula: line_item / revenue.
5. Compute margins for gross, operating, pretax, and net as line_item / revenue.
6. Add conditional formatting to highlight significant changes (e.g., > ±10% YOY or ±100 bps in margins).
7. Add a notes column flagging one‑offs, accounting changes, or tax‑rate shifts.
Spreadsheet formulas (example Excel/Google Sheets)
– YOY %: =(B2-A2)/A2
– Vertical % (current): =B2 / B$1 (assumes revenue is in cell B1)
– Vertical % (prior): =A2 / A$1
Practical checks and caveats
– Always inspect footnotes for accounting policy changes (capitalization vs. expensing), large impairments, or tax adjustments that distort percentages.
– Seasonal businesses require comparing same quarters (QoQ can mislead).
– For peer comparisons, use percentages and consider medians across a group rather than a single competitor to avoid outlier influence.
– Normalize one‑time items by removing them from the period totals when assessing recurring margins.
Worked‑example summary (key numbers)
– Revenue +20%, Gross margin 40% (unchanged), SG&A % down 170 bps (20.0% → 18.3%), Operating margin up 170 bps (20.0% → 21.7%), Net margin up 130 bps (13.5% → 14.8%).
– Conclusion: Company X scaled revenue efficiently with controlled SG&A, producing outsized profit growth relative to revenue.
Further reading and references
– Investopedia — Common‑size financial statement: https://www.investopedia.com/terms/c/commonsizefinancialstatement.asp
– U.S. Securities and Exchange Commission — EDGAR filings (how
EDGAR filings (how to locate 10‑Ks, 10‑Qs and other company filings): https://www.sec.gov/edgar/searchedgar/companysearch.html
Investor.gov (SEC investor education — how to read financial statements): https://www.investor.gov/introduction-investing/investing-basics/how-read-financial-statements
Financial Accounting Standards Board (FASB) — official accounting standards and ASC guidance: https://www.fasb.org
Khan Academy — free tutorials on income statement, balance sheet and cash flow statement: https://www.khanacademy.org/economics-finance-domain/core-finance/accounting-and-financial-statements
Educational disclaimer: This explanation is for educational purposes only and does not constitute individualized investment advice. Always verify numbers using primary filings and consult a qualified professional before making investment decisions.