Per the Income Statement below, Sales dollars are up from 2009 to 2010 and Net I
ID: 2639482 • Letter: P
Question
Per the Income Statement below, Sales dollars are up from 2009 to 2010 and Net Income dollars are up. However, the total return of 5.4% is the same for each year. Examine the Common Size Income Statement below and identify the costs that are hindering an improvement in total return. Are these costs controllable? What recommendations would you make to management? Common Size 2009 2010 2009 2010 % OF SALES % OF SALES SALES $5,134 $6,148 100.0% 100.0% LESS Cost of Goods Sold $3,422 $4,176 66.7% 67.9% GROSS PROFIT $1,712 $1,972 33.3% 32.1% LESS OPER EXPENSES: SELLING $216 $200 4.2% 3.3% General & Administrative $374 $495 7.3% 8.1% LEASE EXP $70 $70 1.4% 1.1% DEPRECIATION EXP $446 $478 8.7% 7.8% TOTAL OPER EXPENSES $1,106 $1,243 21.5% 20.2% OPERATING PROFIT $606 $729 11.8% 11.9% LESS INTEREST EXPENSE $182 $186 3.5% 3.0% NET PROFIT BEFORE TAX $424 $543 8.3% 8.8% LESS TAXES $128 $188 2.5% 3.1% NET PROFIT AFTER TAX $296 $355 5.8% 5.8% LESS PREFERRED DIVIDENDS $20 $20 0.4% 0.3% NET INCOME $276 $335 5.4% 5.4% ANSWER: Identify the costs that are hindering an improvement in total return. Are these costs controllable? What recommendations would you make to management? Per the Income Statement below, Sales dollars are up from 2009 to 2010 and Net Income dollars are up. However, the total return of 5.4% is the same for each year. Examine the Common Size Income Statement below and identify the costs that are hindering an improvement in total return. Are these costs controllable? What recommendations would you make to management? Common Size 2009 2010 2009 2010 % OF SALES % OF SALES SALES $5,134 $6,148 100.0% 100.0% LESS Cost of Goods Sold $3,422 $4,176 66.7% 67.9% GROSS PROFIT $1,712 $1,972 33.3% 32.1% LESS OPER EXPENSES: SELLING $216 $200 4.2% 3.3% General & Administrative $374 $495 7.3% 8.1% LEASE EXP $70 $70 1.4% 1.1% DEPRECIATION EXP $446 $478 8.7% 7.8% TOTAL OPER EXPENSES $1,106 $1,243 21.5% 20.2% OPERATING PROFIT $606 $729 11.8% 11.9% LESS INTEREST EXPENSE $182 $186 3.5% 3.0% NET PROFIT BEFORE TAX $424 $543 8.3% 8.8% LESS TAXES $128 $188 2.5% 3.1% NET PROFIT AFTER TAX $296 $355 5.8% 5.8% LESS PREFERRED DIVIDENDS $20 $20 0.4% 0.3% NET INCOME $276 $335 5.4% 5.4% ANSWER: Identify the costs that are hindering an improvement in total return. Are these costs controllable? What recommendations would you make to management?Explanation / Answer
Answer - From the above common sixe income statement it is clear that the sales have increaed by 1014$. (= $6148-$5134 ) from 2009 to 2010.. The percentage sales increase during this period is 19.75% (= 6148-5134/ 5134 ).
However the cost of good sold has also increased by 754$ from 2009 to 2010.. In percentage terms , the cost of goods sold is increased by 1.2% ( from 66.7 % to 67.9%.. The cost of goods sold percentage is calculated by Cost of goods sold divided by Sales..
Cost of goods sold is the one of the most common expense which any business has to incur and is most directly involved in creating revenue. It represents the costs of producing or purchasing the goods or services sold by the company .
So my first recommendation to the management is to reduce the cost of goods sold cost.
The cost of goods sold might have been increased due to increase in production cost, Increase in cost to procure raw material.. Therefore the company must do a micro analsysis of this expense and develop stratergies to increase the sales kepping the cost of goods sold expense in check. If the cost of goods sold is reduced , the gross profit margin will automitically increase and companies with higher gross profit margins have a competitive edge over rivals, whether because they can charge a higher price for good/services
The next cost which is of major concern which is hindering the return is General & Administrative Cost and Depreciation Expenses. From the Common Size Income Statement, It is visible that the General Administrative Cost have increased by 121$ ( = 495$ - 374$ ) from 2009 to 2010... This category includes marketing, salaries, utility bills, technology expenses and other general costs associated with running a business.So, I would recommend the management that they must focus on facility management expenses like utility bills . The utility bills like electricity cost are the major cost in general and administrative expense... So , the management must monitor the AC runnining cost, Generator cost & lighting cost and ensure that these cost are well monitored are in check... Secondly we are also seeing an increase in depreciation expense.. In corporate world, companies must include the cost of replacing worn out assets.Proper servicing of equipments and Annual Maintenance programmes of the various technical equipments and machinery will help in reducing the worn out of assets and in return increase the shelf life of the equipments... In the above Income statement, it is clear that the depreciation expense have increased by 32 $ ( = 478$ - 446$ ) which means that the management have not taken proper care of the euipments which has resulted in wearing out of the equipment...
Controlling the General & Administrative expense and depreciation expense will have a direct impact in the operationg profit.. Though in this case study the operating profit margin is higher in 2010 ( 11.9% ) as compared to 11.8 % in 2009 inspite of the increase in general and administrative expense and depreciation cost from 2009 to 2010...
So my second recommendation to the management is that the general and administrative cost and depreciation expense must be reduced so that that the operating profit margin will increase than the 11.9% . High operating margins can mean the company has effective control of costs, or that sales are increasing faster than operating costs which will increase the confidence among the investors.
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