Question

Which would you rather have?

• An increase in Sales of $1.00 with the same %-Sales cost structure
• Same Sales level but decrease expenses by $1.00.

Use a simple income statement to support your choice.

Answer 1

We would calculate net income under both the alternatives

Assuming sales is $10 and cost is $5 which mean cost is 50% of sales

Calculation of net income under alternative 1

Sales

$11.00

(10+1)

Cost

$5.50

11*50%

Net income

$5.50

Calculation of net income under alternative 2

Sales

$10.00

Cost

$4.00

(5-1)

Net income

$6.00

The second option of decrease in expense by $1 is preferred as this increases the net income of company.

Under alternative 1, the increase in sales would also increase the cost of business and thus net income would be lower as compared to alternative 2 which would actually decrease cost and increase net income.