Three years ago, Debbie Sells and her brother-in-law Mike Mooney opened Family Department Store. For the first two years, business was good, but the following condensed income results for 2019 were disappointing.

Debbie believes the problem lies in the relatively low gross profit rate (gross profit divided by net sales) of 21%. Mike believes the problem is that operating expenses are too high.

Debbie thinks the gross profit rate can be improved by making both of the following changes. She does not anticipate that these changes will have any effect on operating expenses.

1. Increase average selling prices by 20%. This increase is expected to lower sales volume so that total sales will increase only 5%.

2. Buy merchandise in larger quantities and take all purchase discounts. These changes to selling and purchasing practices are expected to increase the gross profit rate from 21% to 24%.

Mike thinks expenses can be cut by making both of the following changes. He feels that these changes will not have any effect on net sales.
1. Cut 2020 sales salaries (selling expenses) 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 2020 delivery expenses (selling expenses) of £30,000 by 40%.
Debbie and Mike come to you for help in deciding the best way to improve net income. 

Instructions
With the class divided into groups, answer the following.
a. Prepare a condensed income statement for 2020, assuming (1) Debbie’s changes are implemented and (2) Mike’s ideas are adopted.
b. What is your recommendation to Debbie and Mike?
c. Prepare a condensed income statement for 2020, assuming both sets of proposed changes are made.

Transcribed Image Text:

Family Department Store Income Statement For the Year Ended December 31, 2019 Net sales £700,000 Cost of goods sold 553,000 Gross profit Operating expenses Selling expenses Administrative expenses 147,000 £100,000 20,000 120,000 £ 27,000 Net income