Three years ago Zoe Biersack and her brother-in-law Tom Angsten opened Mallmart Department Store. For the first 2 years, business was good, but the following condensed income statement sresults for 2007 were disappointing.

MALLMART DEPARTMENT STORE Income Statement For the Year Ended December 31, 2007 Net sales $700,000 Cost of goods sold 560,000 Gross profit 140,000 Operating expenses Selling expenses $100,000 Administrative expenses 15,000 115,000 Net income $ 25,000 Zoe believes the problem lies in the relatively low gross profit rate of 20%. Tom believes the problem is that operating expenses are too high. Zoe thinks the gross profit rate can be improved by making two changes: (1) Increase average selling prices by 15%; this increase is expected to lower sales volume so that total sales dollars will increase only 5%.

(2) Buy merchandise in larger quantities and take all purchase discounts; these changes are expected to increase the gross profit rate by 4%. Zoe does not anticipate that these changes will have any effect on operating expenses.

Tom thinks expenses can be cut by making these two changes: (1) Cut 2007 sales salaries of $60,000 in half and give sales personnel a commission of 2% of net sales. (2)

Reduce store deliveries to one day per week rather than twice a week; this change will reduce 2007 delivery expenses of $30,000 by 40%. Tom feels that these changes will not have any effect on net sales.

Zoe and Tom come to you for help in deciding the best way to improve net income.

263 264 CHAPTER 5. Merchandising Operations and the Multiple-Step Income Statement Instructions With the class divided into groups, answer the following.

(a) Prepare a condensed income statement for 2008 assuming (1) Zoe’s changes are implemented and (2) Tom’s ideas are adopted.

(b) What is your recommendation to Zoe and Tom?

(c) Prepare a condensed income statement for 2008 assuming both sets of proposed changes are made.

(d) Discuss the impact that other factors might have. For example, would increasing the quantity of inventory increase costs? Would a salary cut affect employee morale?

Would decreased morale affect sales? Would decreased store deliveries decrease customer satisfaction? What other suggestions might be considered?

COMMUNICATION ACTIVITY