Question

Problem 2-12 Determination of profitability [LO2-1]

Lemon Auto Wholesalers had sales of $1,650,000 last year, and cost of goods sold represented 78 percent of sales. Selling and administrative expenses were 13 percent of sales. Depreciation expense was $15,000 and interest expense for the year was $12,000. The firm’s tax rate is 30 percent.

a. Compute earnings after taxes.

b-1. Assume the firm hires Ms. Carr, an efficiency expert, as a consultant. She suggests that by increasing selling and administrative expenses to 15 percent of sales, sales can be increased to $1,700,900. The extra sales effort will also reduce cost of goods sold to 74 percent of sales. (There will be a larger markup in prices as a result of more aggressive selling.) Depreciation expense will remain at $15,000. However, more automobiles will have to be carried in inventory to satisfy customers, and interest expense will go up to $19,300. The firm’s tax rate will remain at 30 percent. Compute revised earnings after taxes based on Ms. Carr’s suggestions for Lemon Auto Wholesalers. (Round taxes and earnings after taxes to 1 decimal place.)
  

b-2. Will her ideas increase or decrease profitability?
  

• Increase profitability

• Decrease profitability

Answer 1

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