Trend analysis is employed when it is required to analyze the trend of data shown in a series of financial statements of several successive years. The trend obtained by such an analysis is expressed as percentages. Trend percentage analysis moves in one direction either upward or downward progression or regression. This method involves the calculation of percentage relationship that each statement bears to the same item in the base year. The base year may be any one of the periods involved in the analysis but the earliest period is mostly taken as the base year. The trend percentage statement is an “analytical device for condensing the absolute rupee data” by comparative statements.
Merits of Trend Analysis:
- Trend percentages indicate the increase or decrease in an accounted item along with the magnitude of change in percentage, which is more effective than the absolute data.
- The trend percentages facilitate an efficient comparative study of the financial performance of a business enterprise over a period of time.
Demerits of Trend Analysis:
- Any one trend by itself is not very analytical and informative.
- If interpretation has to be done on percentages and ratios in isolation and not along with the absolute data from which the percentages have been derived, the inferences tend to be absurd and baseless.
- Comparability of trend percentages is unfavorably affected when the accounts have not been drawn on a consistent basis year after year and when the price level is not constant.
- During inflationary periods the data over a period of time becomes incomparable unless the absolute rupeee data is adjusted.
- There is always the danger of selecting the base year which may not be representative, normal and typical.
- Though the trend percentages provide significant information, undue importance and emphasis should not be laid down on the percentages when there is a small number in the base year. In such cases even a slight variation will be magnified by the percentage change.
Uses of Trend Analysis
- It indicates the increase or decrease in an accounted item along with the magnitude of change in percentage, which is more effective than absolute data.
- The trend percentage facilitates an effective comparative study of the financial performance of a business enterprise over a period of time
