Final answer:
A vertical analysis of the income statements for Red Corporation shows increased expenses in relation to revenue, indicating an unfavorable trend in cost control and a slight decline in profitability, though the company's revenue did grow.
Step-by-step explanation:
To identify any favorable and unfavorable trends in Red Corporation's income statements, a vertical analysis needs to be performed. This analysis expresses each item within the statement as a percentage of a base figure, which is the total revenue for the period.
Vertical Analysis
Revenues - Year 2: 100% (baseline), Year 1: 100% (baseline)
Wages expense - Year 2: 90,500 / 530,000 = 17.08%, Year 1: 88,000 / 525,000 = 16.76%
Rent expense - Year 2: 35,500 / 530,000 = 6.70%, Year 1: 35,000 / 525,000 = 6.67%
Utilities expense - Year 2 and Year 1 both remain at 1.47% as there is no change in expense or revenue
Insurance expense - Year 2: 15,000 / 530,000 = 2.83%, Year 1: 12,000 / 525,000 = 2.29%
Total operating expenses - Year 2: 148,750 / 530,000 = 28.06%, Year 1: 142,750 / 525,000 = 27.19%
Net income - Year 2: 381,250 / 530,000 = 71.94%, Year 1: 382,250 / 525,000 = 72.81%
The analysis shows that the percentage of wages, rent, and insurance expenses to total revenue increased from Year 1 to Year 2. This indicates an unfavorable trend in control over those costs, as they take up more of the revenue pie. However, the net income percentage decreased from Year 1 to Year 2 which suggests a slight decline in profitability. Note: Despite the net income dollar amount being lower in Year 2, the overall revenue growth from Year 1 to Year 2 means the business is still growing in size.