Question

As the manager of the company to whom this income statement belongs, tell me your top 3 concerns and how you might address them.

Going into Year 4, you expect your revenue to be $2,000,000 again but your investors are demanding an Operating Margin of 25%. How are you going to make that happen? Show your work.

Answer 1

Followings are the top 3 concerns;

1. Increasing cost of goods sold is the main issue. As we see in the income statement that increase in the cost of goods sold is showing more faster rate in compare to an increase in revenue. We see that revenue in year 2 has been increased by 50% but cost of goods sold has been increased by 55%. We also see same trend in year 3 also.

2. Operating expenses also have been increased at a higher rate in compare to an increasing rate in the revenue.

3. Increasing burden of interest expenses year by year.

Above 3 concerns can be addressed as follows;

1. Company can manage its’ cost of goods sold with the help of minimization of wastage, purchasing mechandise at lower price or by using better high efficient machinery.

2. Company can manage its’ operating expenses with the help of better monitoring & supervision because with the help of better supervision & monitoring will help in better operational efficiency, apart from this company can review its maketing policy because ineffective marketing tools need to be immediately discontinued. Company also can minimize operating expenses with the help of minimization of delivery expenses.

3. If company is not generating enough revenues then using long-term debt will result into negative impact on the real owners. And we see in this income statement that interest expenses are increasing year by year, thus this company should not use debt funds or should repay debts as soon as possible.

In year 4, company can attain operating margin of 25%, with the help of following steps;

1. First of all increase gross profit by decreasing cost of goods sold. Cost of goods sold can be minimized with the help of various steps such as (purchasing merchandise at resonable price from market, minimize wastage of materials, use of efficient machine and direct labor etc.)

2. Minimize Delivery costs with the help of combined delivery system, use of cot saving delivery services from outsiders etc.

3. Minimize unnecessary marketing expenses because there may be such marketing expenditures which will not have impact on the customers hence such expenditures must be cut down.

4. Minimize unnecessary administration expenses which will not affect volume of the sales revenues of the normal operations, should be cut down. Such minimization of administration expenses will result into improving operating profit upto 25%.