Tuesday, 15 November 2011

Discuss the advantages and disadvantages of secret reserves or Explain the objects and importance of secret reserves

Following are the important advantages of secret reserves :

1. Source Of Power :-
Secret reserves makes the company financially more strong, In the period of depression it enables the company to maintain dividends ad credit due to secret reserves company's shares prices will remain stable.

2. To Meet Future Loss :-
If the company suffers a loss in future, secret reserve can be used to meet this loss without disclosing this fact to the outsiders and shareholders.

3. Financial Stability :-
The profits after making the payment of dividend remain in the business and increases the working capital due to this financial stability of the business improves.

4. Safety From Competitors :-
Some times trade competitors also create some problem when firm is making progress. So profit is shown less and secret reserves are created to with hold the progress information.

5. To Use In A lean Year :-
Some times in case of abnormal profit company creates the secret reserves keeping in view that it will be utilized in the lean year.

6. Useful In Crises :-
The important benefit of secret reserve is that management can meet the financial crises easily in the rainy days. The loan facility may not be available but company can meet the crises.

7. Increase In Working Capital :-
The shortage of capital may become the course of business failure. But to make the business successful secret reserves improve the financial condition of the business.

8. Public Confidence :-
Secret reserves play very important role in winning the confidence of the people. Sometimes when there is no profit in the business these reserves are utilized for the declaration of bonus. It increases the confidence of the people.

9. Stable Dividend Rate :-
In case of greater profit, there is no need to use the reserves. While in case of loss or low profit these reserves can be used to pay dividend. So fluctuation in profit can not affect the dividend rate.

Following are the important disadvantages of secret reserve.

1. True Condition Not Disclosed :-
It is the main disadvantage of secret reserves. The purpose of audit cannot be achieved. The financial statement cannot show the true and fair position of the business.

2. Problem Of Loan In Crises :-
During the financial crises management may fails to generate funds because when business does not look favorable then lenders may refuse to grant loans.

3. Insurance Claim Problem :-
It is the demerit of secret reserves that insurance cannot be claimed. If asset is lost and it is not in the balance sheet then company can not claim for loss.

4. Loan Problem :-
If business condition is good and profit is high but due to secret reserves it is shown poor. In this situation it will be difficult to borrow the loan.

5. Difficult To Sell The business :-
Due to the creation of secret reserves the financial condition is shown poor. The poor condition of business cannot attract the customers and business cannot be sold at reasonable price.

6. Misuse Of Asset :-
When the assets are not shown in the balance sheet management can steal or use it for private purpose. It is business loss.

7. Speculation :-
Due to secret reserves prices of shares go up and down and investor losses the investment in share. It creates panic in them.

8. Conceals Poor Performance :-
Poor management may be able to run the business for several years and conceals the poor performance by using the secret reserves.

9. Low Value Of Share :-
As the company creates the secret reserve the value of shares goes down. It is not a healthy sign for the business activity.

10. Low Profit :-
When secret reserves are created then profit will be low for the shareholders. The shareholders will be unhappy on this act of management.


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