Party-Time T-Shirts sells T-shirts for parties at the local college. The company completed the first year of operations, and the shareholders are generally pleased with operating results as shown by the following income statement:

PARTY-TIME T-SHIRTS

Income Statement

Year Ended December 31, 2017

Net Sales Revenue \(350,000

Cost of Goods Sold 210,000

Gross Profit 140,000

Operating Expenses:

Selling Expense 40,000

Administrative Expense 25,000

Net Income \)75,000

Bill Hildebrand, the controller, is considering how to expand the business. He proposes two ways to increase profits to \(100,000 during 2018.

a. Hildebrand believes he should advertise more heavily. He believes additional advertising costing \)20,000 will increase net sales by 30% and leave administrative expense unchanged. Assume that Cost of Goods Sold will remain at the same percentage of net sales as in 2017, so if net sales increase in 2018, Cost of Goods Sold will increase proportionately.

b. Hildebrand proposes selling higher-margin merchandise, such as party dresses, in addition to the existing product line. An importer can supply a minimum of 1,000 dresses for \(40 each; Party-Time can mark these dresses up 100% and sell them for \)80. Hildebrand realizes he will have to advertise the new merchandise, and this advertising will cost $5,000. Party-Time can expect to sell only 80% of these dresses during the coming year.

Help Hildebrand determine which plan to pursue. Prepare a multi-step income statement for 2018 to show the expected net income under each plan.

Short Answer

Expert verified

The net income under plan a is$97,000.

The net income under plan b is$102,000.

Step by step solution

01

Types of Income Statement

The major purpose of drafting an income statement is to determine the profits generated or losses incurred by a business.Single-step and multi-step are two main forms of income statements; though both reflect the samenet income, the presentation of events differs in both formats.

02

Preparation of multi-step income statement under plan a

PARTY-TIME T-SHIRTS

Multi-step Income Statement

For the year ended 2018

Particulars

Amounts ($)

Net sales revenue (WN-1)

455,000

Less: Cost of goods sold (WN-2)

(273,000)

Gross profit

182,000

Less: Operating expenses

Selling expenses 40,000

Add: Advertising expense 20,000

(60,000)

Administrative expense

(25,000)

Net income

$97,000

Working Notes:

  1. Computation of net sales revenue:

Net sales increased by 30%, hence net sales for the year 2018 is:

Net sales revenue=Sales for 2017+30%of 2017's sale=$350,000+30100×$350,000=$455,000


2. Computation of cost of goods sold:

The cost of goods sold is computed as follows:

Cost of goods sold=Cost of goods sold for 2017Net sales revenue for 2017×100=$210,000$350,000×100=60%Hence, the cost of goods sold for 2018 is as follows:Cost of goods sold=Net sales of 2018×60%=$455,000×60100=$273,000

03

Preparation of multi-step income statement under plan b

PARTY-TIME T-SHIRTS

Multi-step Income Statement

For the year ended 2018

Particulars

Amounts ($)

Net sales revenue (WN-1)

414,000

Less: Cost of goods sold (WN-2)

(242,000)

Gross profit

172,000

Less: Operating expenses

Selling expenses 40,000

Add: Advertising expense 5,000

(45,000)

Administrative expenses

(25,000)

Net income

$102,000

Working Notes:

  1. Computation of net sales revenue:
New Sales revenue=Number of dresses×expected sales percentage×Selling price=1,000×80%×$80=$64,000

Total net sales revenue for 2018=Sales revenue for 2017 + New sales revenue=$350,000+$64,000=$414,000

2. Computation of cost of goods sold:

Cost of new sales revenue=Number of dresses×Expected sales percentage×Cost per dress=1,000×80%×$40=$32,000


Total increase in cost of goods sold=Cost of goods sold for 2017 + New cost of goods sold=$210,000+$32,000=$242,000


Comment:The net income under plan b is more than plan a. Hence, the company should pursue with plan b.

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Most popular questions from this chapter

Journalize the following transactions that occurred in March 2018 for Faucet. Assume Faucet uses the gross method to record sales revenue. No explanations are needed. Identify each accounts payable and accounts receivable with the vendor or customer name.

Mar. 3 Purchased merchandise inventory on account from Sidecki Wholesalers, \(3,500. Terms 2/15, n/EOM, FOB shipping point.

4 Paid freight bill of \)75 on March 3 purchase.

4 Purchased merchandise inventory for cash of \(2,200.

6 Returned \)800 of inventory from March 3 purchase.

8 Sold merchandise inventory to Harvey Company, \(5,700, on account. Terms 2/15, n/35. Cost of goods, \)2,508.

9 Purchased merchandise inventory on account from Teaton Wholesalers, \(6,000. Terms 2/10, n/30, FOB destination.

10 Made payment to Sidecki Wholesalers for goods purchased on March 3, less return and discount.

13 After negotiations, received a \)100 allowance from Teaton Wholesalers.

15 Sold merchandise inventory to Jackson Company, \(2,900, on account. Terms n/EOM. Cost of goods, \)1,276.

22 Made payment, less allowance, to Teaton Wholesalers for goods purchased on March 9.

25 Sold merchandise inventory to Secker for \(2,000 on account that cost \)880. Terms of 2/10, n/30 were offered, FOB shipping point. As a courtesy to Secker, $85 of freight was added to the invoice for which cash was paid by Faucet.

28 Received payment from Harvey Company.

29 Received payment from Secker, less discount.

30 Received payment from Jackson Company.

Click Computers’ Merchandise Inventory account at year-end is showing a balance of \(43,000. The physical count of inventory came up with \)42,500. Journalize the adjusting entry needed to account for the inventory shrinkage. The company uses the perpetual inventory system.

When a company has a contract involving multiple performance obligations, how must the company recognize revenue?

What account is debited when recording a purchase of inventory when using a periodic inventory system?

Consider the following transactions for Burlington Drug Store:

Feb. 2 Burlington buys \(23,800 worth of inventory on account with credit terms of 2/15, n/30, FOB shipping point.

4 Burlington pays a \)50 freight charge.

9 Burlington returns $5,200 of the merchandise due to damage during shipment.

14 Burlington paid the amount due, less return and discount.

Requirements

1. Journalize the purchase transactions. Explanations are not required.

2. In the final analysis, how much did the inventory cost Burlington Drug Store?

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