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Homework answers / question archive / Joseph is the owner of a business selling previously owned furniture and appliances
Joseph is the owner of a business selling previously owned furniture and appliances. Joseph
wants to implement strategies that will expand the business and increase its value and
profitability. Joseph is very interested in making use of financial performance analysis tools to
assess and manage the financial performance of the business.
He approached you and requested that you assist him with the preparation of a common-size
statements of comprehensive income for the years ended 2018 and 2019.
He presented you with the following statements of comprehensive income for 2018 and 2019:
Statements of comprehensive income for the years ending 2018 and 2019
|
2019 |
2018 |
|
| Revenue | 266 000 | 230 000 |
|
Cost of goods sold |
160 000 |
142 000 |
|
Gross profit margin |
106 000 |
88 000 |
|
General and administrative expenses |
14 100 |
11 500 |
|
Marketing and selling expenses |
16 700 |
15 200 |
|
Operating profit |
75 200 |
61 300 |
|
Interest expense |
12 000 |
15 000 |
|
Net profit before taxation |
63 200 |
46 300 |
|
Income tax |
18 960 |
13 890 |
|
Net profit for the year |
44 240 |
32 410 |
Required:
1.1. Prepare a common-size statement of comprehensive income for the years 2018 and 2019. Show ONLY the final answers in the statement. (10)
Round off the all the calculations to the closest whole number.
1.2. For each line item in the common-size statement, indicate whether the financial performance of the business for 2019 was “better”, “the same” or “worse” than that of
2018. (5)
1.3. Comment on the profitability of the business by basing your comments on the profitability ratios included in the common-size statement. (18)
Common size statements are one of the most crtical analysis tools implimented by users and analysts to understand the performance of the business across time periods. In common size analysis statements the elements of income statement are presented in terms of percentage of the sales or revenues.
1.1
| Common Size Comprehensive Income Statement Analysis | ||
| Particulars | 2019 | 2018 |
| Revenue | 100% | 100% |
| Cost of goods sold | 60% | 62% |
| Gross profit margin | 40% | 38% |
| General and administrative expenses | 5% | 5% |
| Marketing and selling expenses | 6% | 7% |
| Operating profit | 28% | 27% |
| Interest expense | 5% | 7% |
| Net profit before taxation | 24% | 20% |
| Income tax | 7% | 6% |
| Net profit for the year | 17% | 14% |
1.2
| Common Size Comprehensive Income Statement Analysis | |||
| Particulars | 2019 | 2018 | Financial performance |
| Revenue | 100% | 100% | |
| Cost of goods sold | 60% | 62% | Better |
| Gross profit margin | 40% | 38% | Better |
| General and administrative expenses | 5% | 5% | Same |
| Marketing and selling expenses | 6% | 7% | Better |
| Operating profit | 28% | 27% | Better |
| Interest expense | 5% | 7% | Better |
| Net profit before taxation | 24% | 20% | Better |
| Income tax | 7% | 6% | Worse |
| Net profit for the year | 17% | 14% | Better |
1.3
Profitabilty Ratios:
Following are the major profitabilty ratios-
Gross Profit Margin and Net Profit Margin.
Gross Profir Margin is the ratio between gross profit and total sales or revenue It is computed by dividing the gross profit from total sales.
Comment: Gross profit has increased in 2019 as compared to previous year 2018 due to reduction of 2% in cost of goods sold. This shows the business has control over its cost of sales which is good for business to generate more profit in future. The business should make sure that its cost of sales are not increasing or else increasing costs can wipe out the profits. The cost to income ratio should be healthy and in line with industry.
Net Profit Margin is the ratio between net profit and sales and is computed by dividing the net profit from the sales. Net profit margin has increased by 3% from 14% in 2018 to 17% in 2019 which indicate that business is doing well in terms of generating net profits for the shareholders. The increase in net profit 3% is due to reduction in marketing and selling expenses (1%), Interest expenses (2%).
Conclusion: From the common size statement analysis we can conclude that business has performed well in 2019 as compared to previous year 2018.
