Allen Products. Inc., wants to do a scenario analysis for the coming year. The p

Question

Allen Products. Inc., wants to do a scenario analysis for the coming year. The pessimistic prediction for sales is $900,000; the most likely amount of sales is SI,125.000; and the optimistic prediction is $1,280,000. Allen's income statement for the most recent year follows. Use the percent-of-sales method, the income statement for December 31, 2015. and the sales revenue estimates to develop pessimistic, most likely, and optimistic pro forma income statements for the coming year. Explain how the percent-of-sales method could result in an overstatement of profits for the pessimistic case and an understatement of profits for the most likely and optimistic cases Restate the pro forma income statements prepared in part a to incorporate the following assumptions about the 2015 costs: $250,000 of the cost of goods sold is fixed; the rest is variable. $180,000 of the operating expenses is fixed' thc rest is variable. All the interest expense is fixed o your ru,d,,,Bsp"'a ,x our

Explanation / Answer

a)

Performa Income Statement

Allen Products Inc for the year ended december 31,2015

b)

This pattern results in an understatement of cost in the pessimistic case and an overstatment of profits. The opposite occurs in the optimistic scenario.

c)

Performa Income Statement

Allen products Inc. for the year ended december 31, 2015

cost of goods sold variable percentage

($ 421875 - $ 250000 ) / 937500

Operating expense variable percentage

($ 234375 - $ 180000 ) / $ 937500

d)

The profits for the pessimistic case are large in part a then in part c

For the Optimistic case the profit are lower in part a then the part c

This outcome confirms the results as states in part b.

Pessimistic Most Likely Optimistic sale $ 9,00,000 $ 1,125,000 $ 1,128,000 Less Cost of goods sold (45%) 405,000 506,250 576,000 Gross Profit $ 4,95,000 $ 6,18,750 $ 704,000 Less Operating expense (25%) 2,25,000 281,250 320,000 Operating Profit $ 2,70,000 $ 3,37,500 $ 3,84,000 Less Interest expense (3.2%) 28,800 36,000 40,960 Net Profit Before Taxes $ 241,200 $ 301,500 $ 343,040 Taxes (25%) 60,300 75,375 85,760 Net Profit after Taxes $ 180,900 $ 226,125 $ 257,280

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