Question

1. Name and explain three tricks that management can play to manage earnings. Explain how using financial ratios can help spot these tricks.

2. Why is it important to analyze profitability, specifically focusing on return on investment? Invoke the breakdown of ROI in thinking about your response.

Answer 1

1. Name and explain three tricks that management can play to manage earnings. Explain how using financial ratios can help spot these tricks.

Three Tricks

a. Reduce the Price and Increase the Turnover - Price can be reduced a little which can help in increase the turnover and thereby can manage your earnings

b. Special Discounts for purchases made in Bulk - Give Special Discounts for purchases made in bulk.

c. Give Cash Discounts - If the Company is regular in giving a Credit to its customer - The management can offer cash discount is payment is done immediately. This in turn proceeds can be used for leveraging the interest cost on the amount borrowed and increase earnings.

Financial Ratio helpful for the above tricks

a. Inventory Turnover Ratio - This helps in all the above 3 tricks where by the inventory to turnover ratio can be increased and which in turns give helps in achieving the higher Inventory Turnover ratio.

b. Average Collection Period Ratio - This helps in reducing the average collection period ratio which inturns helps in Cash flow of the company

2. Why is it important to analyze profitability, specifically focusing on return on investment? Invoke the breakdown of ROI in thinking about your response.

Any company doing on business with Investment being made expects to get Return from its Investment. Also the Return on Investment which the company expects to be a reasonable. Hence is it important to analyze profitability.