Question

You have been given the following information for PattyCake’s Athletic Wear Corp. for the year 2018:

1. Net sales = $38,700,000.

2. Cost of goods sold = $22,180,000.

3. Other operating expenses = $6,000,000.

4. Addition to retained earnings = $1,206,500.

5. Dividends paid to preferred and common stockholders = $1,933,000.

6. Interest expense = $1,830,000.

7. The firm’s tax rate is 30 percent.

In 2019:

8. Net sales are expected to increase by $9.70 million.

9. Cost of goods sold is expected to be 60 percent of net sales.

10. Depreciation and other operating expenses are expected to be the same as in 2018.

11. Interest expense is expected to be $2,105,000.

12. The tax rate is expected to be 30 percent of EBT.

13. Dividends paid to preferred and common stockholders will not change.

Calculate the addition to retained earnings expected in 2019.

Answer 1

As a first step, we need to calculate the missing figure for depreciation from the Income Statement for the year 2018:

For the year 2018:

Addition to retained earnings = [Net sales - Cost of goods sold - Other operating expenses - Depreciation - Interest expense] x (1 - Tax rate) - Dividends paid to preferred and common stockholders =

Or, $1,206,500 = [$38,700,000 - $22,180,000 - $6,000,000 - Depreciation - $1,830,000] x (1 - 30%) - $1,933,000

Or, $1,206,500 + $1,933,000 = ($ 8,690,000 - Depreciation) x 70%

Hence, Depreciation = $  4,205,000

We can now cast the income statement for the year 2019 as shown below. Please refer to the last column that explains how each item has been calculated. The last item highlighted in yellow color is the answer:

Parameter	Values	How it has been calculated?
Net Sales	48,400,000	=38700000+9.7*10^6
[-] COGS	29,040,000	= 60% of net sales
Gross Profit	19,360,000	Net Sales - COGS
[-] Other operating expenses	6,000,000	Same as last year
[-] Depreciation	4,205,000	Same as last year
Operating income	9,155,000
[-] interest	2,105,000	Given
EBT	7,050,000
[-] Taxes	2,115,000	=30% x EBT
Net Income	4,935,000
[-] Dividends paid	1,933,000	Same as last year
Addition to retained earnings	3,002,000