What Is Cross-Sectional Analysis? (With Steps and Sample)

By Indeed Editorial Team

Published April 20, 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

There are several research methods that financial analysts can use to assess a company's financial performance. The cross-sectional analysis is a research method that allows investors and analysts to compare the performance of companies within the same industry. Understanding this analysis can help you implement and use it to make investment recommendations. In this article, we explain what this analysis is about, describe the difference between cross-sectional and time series analysis, outline steps on implementing it, highlight diverse sectors that implement this analysis, discuss its advantages, and provide a sample.

What is cross-sectional analysis?

A cross-sectional analysis or relative analysis studies a data set or population group at a specific point in time. Cross-sectional studies analyze the characteristics of groups and identify the relationship between data. Experts in education, finance, and psychology may utilize cross-sectional studies while conducting research. In the finance sector, analysts may use these studies to compare the metrics of companies and industries. Investors may also use relative analysis to determine liquidity and profitability ratios for potential stock and investments.

Analysts may also use cross-sectional studies to determine a benchmark that they can use to evaluate the performance of companies. The benchmark is the average ratio or performance of other companies in a particular industry. For instance, financial analysts may use a relative analysis to compare two countries' gross domestic product (GDP). Macroeconomists may also use relative analysis to research labour markets, while political scientists may investigate demographics and election campaigns. The relative analysis is mostly descriptive, which means it might not highlight the causes or effects of the research topic.

Related: Research Skills: Definition and Examples

Relative analysis vs. time series analysis

The relative analysis studies different metrics, variables, or data over an extended period, while the time series analysis studies one variable. Time series analysis or trend analysis is usually helpful in studying a company's profits or growth rate during a period. It can measure the income rate and free cash flow for a specific period. Relative analysis can study the growth of companies in a particular industry or location. Relative analysis and time series analysis can research and analyze stock performance. Investors and analysts typically use both methods to understand the financial performance of a company.

Related: 12 Financial Analyst Skills You Need to Succeed at Work

How can financial analysts implement relative analysis?

Here are some steps that financial analysts can take to use relative analysis:

Collect data

Financial analysts study the balance sheets, income statements, and financial statements of the companies they're comparing. These statements help analysts gather valuable data from a specific period to use in their assessments. Investors can also use the balance sheets and company statements to determine the stock values of different companies.

Related: What Is an Income Statement? (With Definition and Template)

Use metrics

After collecting statistics and data from companies' informative documents, analysts and investors can use specific metrics to answer their research questions. They typically determine a benchmark ratio to understand the minimal performance of the companies. Financial analysts may use leverage ratios, profitability ratios, and solvency ratios to analyze companies. Leverage ratios measure the ability of companies to meet their financial goals and obligations. Profitability ratios assess the company's ability to generate profit and revenue through sales and other operations. Solvency ratios use the debt-to-assets ratio and additional information to measure the ability of companies to pay their debts.

Compare results

The meaning of a relative analysis is to gain insight into an industry, group, or population by comparing data. Analysts may use the results from studying this data to determine the comparative valuation of similar companies. They may also use these results to test the operational efficiency of companies, which shows the relative success of companies' allocation of resources and profitability.

Analysts may also use these results to understand the return-on-equity of companies. This return-on-equity (ROE) compares the company's income to its shareholders' equity. Typically, a high-performing company might meet be equal to or higher than the benchmark ROE. These results also help business owners understand the position of their companies in the industry and help them set appropriate goals.

How do other sectors implement cross-sectional analysis?

The relative analysis is an effective research tool that institutions, companies, and research facilities may use in observing data and obtaining results. Sectors such as education and healthcare may use variables like age, gender, and ethnicity to research theories and compare performance. Here are some sectors that implement relative analysis:

Education sector

Professionals and researchers can use relative analysis to assess students' performance within a region in the education sector. They may also use this analysis to test new teaching methods and determine how they may improve students' performance. Relative analysis may also help educational professionals compare the success of the education system of other regions. Professionals can use data, such as students' grades and surveys, to assess the suitability of a new curriculum in a particular school district.

Related: 20 Careers in Teaching and Education (With Salaries)

Retail industry

The retail industry typically assesses customer preferences, needs, and market trends. This industry may use relative analysis to compare customer data and understand their target market's preferences. This analysis may also help them make more targeted and effective campaigns that reflect customers' preferences. For instance, a retail store might use surveys and feedback forms to determine how customers respond to a new product. Companies that operate in the retail industry may also use relative analysis to understand the needs of their target location when they're expanding.

Health care industry

Healthcare institutions can use relative analysis to study the effectiveness of healthcare systems in different provinces or regions. Pharmaceutical companies can use relative analysis to measure the effectiveness of novel treatment methods and medicine. The relative analysis also helps researchers in the health care industry investigate illnesses that affect certain age groups.

Government sector

A relative analysis is very useful to government institutions and officials. Government bodies can use census data to compare communities' population and growth rates. They may also use relative analysis to measure and compare the unemployment rate in different provinces. It also helps them create policies that can address the problems that the analysis highlights.

Media

Professionals in the media industry may use relative analysis to study how the internet and social media affect the distribution of information in other locations. They may also use this study to understand their readers and the topics they may prefer. Television and radio stations may use relative analysis to gain insight into the preferences and opinions of their viewers.

Advantages of the relative analysis

The relative analysis allows investors, analysts, and researchers to study the entire group or population during a specific period, which can improve the precision and accuracy of results. Most research methods typically test a sample of the population or group. Here are more advantages of applying relative analysis:

  • Consumes less time: The relative analysis studies data and figures from a specific period. Collecting this data requires a shorter time, unlike other research methods, because it's from a single period.

  • Aids further research: The relative analysis is typically descriptive. Researchers can use it to start a more in-depth study of their research topic and make necessary conclusions.

  • Provides an affordable option: The relative analysis is typically cheaper than other research methods. This is because this analysis rarely requires the follow-up necessary for other methods.

  • Allows multiple uses: Other researchers can use the data and information that the relative analysis presents. They may use it for purposes unrelated to the original research topic.

  • Tests multiple possibilities: The relative analysis allows researchers to study and test different assumptions simultaneously. This improves the effectiveness and inclusivity of the research.

Example of relative analysis

Here is a sample implementation of the relative analysis process:

Rose works as a financial analyst for Sunshine company, which wants to invest in a construction business. Rose wishes to compare the financial performance of companies in the construction industry to recommend a suitable option. She sets a benchmark metric and uses a relative analysis to compare the metrics of two companies. Rose studies their balance sheets and financial statements and uses the relative analysis method to compare the earnings per share of the two companies and calculate the profit of shareholders. High earnings per share value indicate a successful company. The formula for calculating the return on equity is:

Earnings per share = net profit / outstanding shares

The first company, Development Inc., recorded a net profit of $10 million in its third quarter, with outstanding shares of $8 million. Its earnings per share are $1.25. Manufacturers company, which is the second company, recorded a net profit of $8 million in its third quarter, with outstanding shares of $7 million. Its earnings per share are $1.14. Rose might recommend the Development company's stock as they have higher earnings per share value.

Explore more articles