Question

As a manager or business owner, you will face many difficult decisions. Review the following scenario for a major specialty retailer based in the United States. The jewelry department had net sales of $1 million. The direct expenses during the period under consideration were:

Expense Category	Expense Amount
Buying salaries	$125,000
Selling salaries	$275,000
Advertising	$90,000
Receiving and marking	$15,000
Wrapping and packing	$10,000

The gross margin achieved during this time was 48.0%. After reviewing this performance, management decided that expenses must be reduced. The manager was given the choice of either (1) reducing the advertising budget to a maximum of $50,000 or (2) eliminating a salesperson, which would reduce selling salaries by $50,000.

discuss which plan of action you would choose and why. Explore the two options mathematically, and then state your choice. Justify your decision. Discuss the impact your strategy will have on net profit.

Answer 1

CASE I:when advertising budget is reduced-

Gross Margin(on cost) : 1000000*48/148 = $324324

Less: wrapping & packing $10000

Receiving and making $15000

Buying salaries $125000   = $150000

$174324

Less:Selling salaries $275000

Advertising $50000 $325000

Net loss $150676

CASE II:when a sales person is eliminated-

Gross Margin(on cost) : 1000000*48/148 = $324324

Less: wrapping & packing $10000

Receiving and making $15000

Buying salaries $125000   = $150000

$174324

Less:Selling salaries $225000

Advertising $90000 $315000

Net loss $140676

From the above it is clear that eliminating a sales person is more beneficial than reducing advertisement budget,that is Case II is beneficial than Case I.

* it is assumed that gross margin is calculated on cost