Financial Statement Analysis Practice Test

The trend index is calculated by taking the current amount and dividing it by the base year amount, then multiplying the result by 100. This method establishes a standardized basis for comparison over time, allowing analysts to discern growth or decline relative to the chosen base period.

The base year serves as a reference point, and by calculating the trend index in this manner, you convert the ratio into a percentage that clearly illustrates how much the current figure has changed in relation to the base year. This is particularly useful for spotting trends in financial data, as it transforms raw numbers into a context that reflects growth patterns or declines effectively.

For instance, if a company had revenues of $200,000 in the base year and $300,000 in the current year, the trend index would be calculated as ($300,000 / $200,000) * 100, resulting in a trend index of 150. This indicates a 50% increase from the base year.

In contrast, other methods such as simply comparing total revenue or using subtraction would not provide the same relative view of growth or performance over time, which is the critical insight the trend index offers.