Example Of Critical Thinking On Finance

The shortcoming of financial ratios is that it does not take into consideration quality and other psychological factors like mental stress, hard work, health or the quality of work done by its employees. The ratios also tend to be judged solely on monetary factors and these considerations are totally ignored. Most readers of financial ratios look at the company based on the ratios reflected in the financial statements. This is not always true because a company considers various factors before making a decision and each decision is reflected in the financial ratio.
Net profit and retained earnings are the factors which motivate management to manage earnings. Earnings management is an entire different segment which is a part of any organization. Various factors like net profit, goodwill, additional income for stakeholders and a positive vibe about the company are some of the factors which motivate management to manage earnings. The motivation for managers could also be due to the fact that they are liable to a certain part of the income from the total earnings. Basically earnings management is done to match the earnings target of the company. If the company matches the target set forth by it then it will be easier for it to convince the shareholders about its functioning and it will also help them earn higher revenue as well as credit from the lenders. Earnings management involves manipulation of the earnings so as to meet the predetermined targets.
The SOX Act is applicable to all the companies and it has various characteristics. But one important characteristic of the Act is that it affects not only the financial sector of the organizations but also the IT department which has to work according to the act. The Act defines which records should be stored and for how many years should they be maintained. The characteristic of Sarbanes Oxley Act is that it affects the management of electronic records. It specifies the retention period of the records, the methods of destruction and alteration of the same. It also specifies the fines and penalty in case of noncompliance of the rules set in the Act. It is aimed to protect the general public from accounting errors and fraudulent practices taking place in an organization.
Earnings can be managed by the managers by manipulation of the accounts and financial statements. This can be done by keeping the pre-determined profits in mind and then affecting the earnings of the current year. Cookie Jar method is one way of managing earnings, this is done by manipulation of cash and cash reserves, so instead of showing exceptionally good or bad income in the years, the companies choose to show moderate income by making changes in the cash or cash reserves. The cash is simply removed or added to the cash reserve accounts.
One of Porters Five Forces that can change competitiveness of a firms product and service is bargaining power of customers. This is the ability of the customers to put the firm under pressure and ask for price changes. Because of the availability of various alternatives, the customers can easily put pressure on the firms. The firm can have an advantage if the buyer power is low. The firm should acquire additional information from market research and determine the power of the buyers so as to fix a price of their products. Availability of substitute products will also add to the advantage of the buyer as they can easily switch from one product to the other. The demand of a product has a major role to play in the way the firms product and services are sold. Buyers control the demand and hence they have the power to change competitiveness of a firms product and service.