Cross-sectional analysis (also known as relative analysis) is a comparison of a particular metric (available in any of the financial statements) of one company with the corresponding metric of another company within the same industry, or against the industry in which it operates in. The objective of such a study is to understand and derive the relationship between the two despite being different significantly in size, or operating in two different currencies. This type of analysis is generally used to measure a company’s performance, efficiency and effectiveness against its competitors and industry benchmarks.
For example, Company A has 15% of its total assets as cash, whereas Company B has 40% of its total assets as cash. Even though the size of both the companies are different (and also assume they are operating in two different countries with different currencies), they are similar companies operating within the same industry, but Company B is more liquid. The reasons for such liquidity can be to acquire a target or to make an investment in property, plant and equipment for operational efficiency.
Generally, analysts and investors (individual and institutional) take into account various financial ratios to compare companies. Leverage ratio, profitability ratio, liquidity ratio and solvency ratio are the most frequently used ones to judge a company’s performance.
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