Question

Analyze Operational Changes
Richmond's is a retail store with eight departments, including a garden department that has been operating at a loss. The following condensed income statement gives the latest year's operating results:

		Garden Department		All Other Departments
Sales					$672,000		$4,800,000
Cost of sales		403,200		3,120,000
Gross profit		268,800		1,680,000
Direct expenses		216,000		546,000
Common expenses		96,000		624,000
Total expenses		312,000		1,170,000
Net income (Loss)		$(43,200)		$510,000

a. Calculate the gross profit percentage for the garden department and for the other departments as a group.

Garden department Answer

%

All other departments Answer

%

b. Suppose that if the garden department were discontinued, the space occupied could be rented to an outside firm for $36,000 per year, and the common expenses of the firm would be reduced by $9,000. What effect would this action have on Richmond's net income? (Ignore income tax in your calculations.)

Richmond's net income would Answerdecreaseincrease

 by $Answer

.

c. It is estimated that if an additional $12,000 were spent on advertising, prices in the garden center could be raised an average of 5% without a change in physical volume of products sold. What effect would this have on the operating results of the garden department? (Again, ignore income tax in your calculations.)

Use a negative sign to indicate a net loss answer; otherwise do not use negative signs with your answers.

Garden Department Income Statement
Sales	Answer
Cost of sales	Answer
Gross profit	Answer
Direct expenses	Answer
Common expenses	Answer
Total expenses	Answer
Net income (Loss)	Answer

Answer 1

Answer :

a) Gross Profit % = (Gross Profit / Sales) * 100

For Garden Department -

Gross Profit % = ($268,800 / $672,000) * 100

= 0.40 * 100

= 40%

For All Other Departments -

Gross Profit % = ($1,680,000 / $4,800,000) * 100

= 0.35 * 100

= 35%

b) If the Garden's department is discontinued -

The Sales of Garden Department will become zero.

Hence, Gross Profit of Garden Department will also become zero.

Loss of Gross Profit = $268,800

Benefit of Rent from outside firm = $36,000 (Given)

Benefit from decrease in common expenses = $9,000 (Given)

Direct Expenses of Garden Department will not be incurred if the Garden Department is discontinued.

Benefit from direct expenses savings = $216,000

Total Benefit if Garden Department is discontinued = Benefit of Rent from outside firm + Benefit from decrease in common expenses + Benefit from Direct Expenses Savings

= $36,000 + $9,000 + $216,000

= $261,000

Effect on Net Income = Total Benefit if Garden Department is discontinued - Loss of Gross Profit if Garden Department is discontinued

= $261,000 - $268,800

= -$7,800

Hence,

Richmond's net income would decrease by $7,800

c)

Garden Department Income Statement

Sales	$705,600
Cost of Sales	$403,200
Gross Profit	$302,400
Direct Expenses	$228,000
Common Expenses	$96,000
Total Expenses	$324,000
Net Income (Loss)	($21,600)

​​​​​​

Explanation :

If additional $12,000 were spent on advertising -

Increase in prices of Garden Center = 5% (Given)

No Change in units sold (Given)

Sales = Current Sales + (5% of Current Sales)

= $672,000 + (5% * $672,000)

= $672,000 + $33,600

= $705,600

Cost of Sales = $403,200 (No Change)

Gross Profit = Sales - Cost of Sales

= $705,600 - $403,200

= $302,400

Direct Expenses = Current Direct Expenses + Additional Advertising Expenses

= $216,000 + $12,000

= $228,000

Common Expenses = $96,000 (No Change)

Total Expenses = Direct Expenses + Common Expenses

= $228,000 + $96,000

= $324,000

Net Income (Loss) = Gross Profit - Total Expenses

= $302,400 - $324,000

= ($21,600)

Current Net Loss = $43,200

Net Loss if additional $12,000 is spent on advertising = $21,600

Hence,

Decrease in Net Loss = Current Net Loss - Net Loss if additional $12,000 is spent on advertising

= $43,200 - $21,600

= $21,600

Therefore, Net Loss will decrease by $21,600.