Three years ago, Julia Stevens and her brother-in-law, Mike Matthews, opened S & R Department Store. For the first 2 years, business was good, but the following condensed profit results for 2015 were disappointing.

Julia believes the problem lies in the relatively low gross profit ratio (gross profit divided by net sales) of 20%. Mike believes that problem is that expenses are too high.

Julia thinks the gross profit ratio can be improved by making both of the following changes:

1. Increase average selling prices by 17%. This increase is expected to lower sales volume so that total sales will increase only 8%.

2. Buy inventory in larger quantities and take all purchase discounts. These changes are expected to increase the gross profit ratio by 3%.

Julia does not anticipate that these changes will have any effect on expenses.

Mike thinks expenses can be cut by making both of the following changes:

1. Cut 2016 sales salaries of P60,000 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 2016 delivery expense of P400,000 by 40%.

Mike feels that these changes will not have any effect on sales.

Julia and Mike come to you for help in deciding the best way to improve profit.

a. Prepare an income statement for 2015 assuming (1) Julias changes are implemented and (2) Mikes ideas are adopted.

b. What is your recommendation to Julia and Mike?

c. Prepare an income statement for 2015 assuming both sets of proposed changes are made.

d. State any recommendations for this case.

S & R DEPARTMENT STORE Income Statement For the year ended 31 December 2015 Net Sales Cost of Sales Gross Profit Expenses P1,000,000 Selling Expenses Administrative Expenses 200,000 Profit P7,000,000 5,600,000 P1,400,000 1,200,000 P200,000