Answer: cost cutting in selling, general and administration.

## Explanation To analyze the common-size income statement, we need to express each item as a percentage of net revenue for each year: **Year 1 Common-Size Analysis:** - Net revenue: 100% - Cost of goods sold: (1,550 / 2,325) × 100 = 66.67% - Gross profit: (775 / 2,325) × 100 = 33.33% - SG&A expense: (260 / 2,325) × 100 = 11.18% - Operating income: (515 / 2,325) × 100 = 22.15% - Interest expense: (55 / 2,325) × 100 = 2.37% - Pre-tax income: (460 / 2,325) × 100 = 19.78% - Income tax: (120 / 460) × 100 = 26.09% (tax rate) - Net income: (340 / 2,325) × 100 = 14.62% **Year 2 Common-Size Analysis:** - Net revenue: 100% - Cost of goods sold: (1,700 / 2,611) × 100 = 65.11% - Gross profit: (930 / 2,611) × 100 = 35.62% - SG&A expense: (295 / 2,611) × 100 = 11.30% - Operating income: (635 / 2,611) × 100 = 24.32% - Interest expense: (55 / 2,611) × 100 = 2.11% - Pre-tax income: (580 / 2,611) × 100 = 22.21% - Income tax: (155 / 580) × 100 = 26.72% (tax rate) - Net income: (425 / 2,611) × 100 = 16.28% **Key Observations:** 1. **Tax Rate**: Increased from 26.09% to 26.72% (not lower) 2. **Gross Margin**: Improved from 33.33% to 35.62% - this could indicate sale of differentiated products with higher margins 3. **SG&A Expense**: Increased slightly from 11.18% to 11.30% - not cost cutting **Analysis of Options:** - **A. Lower tax rate**: Incorrect - tax rate actually increased - **B. Sale of a new, differentiated product**: Possible, as gross margin improved significantly - **C. Cost cutting in SG&A**: Incorrect - SG&A expense as percentage of revenue increased slightly However, the question asks what the common-size income statement **most likely** indicates. While gross margin improvement could suggest differentiated products, the improvement in operating margin (from 22.15% to 24.32%) is driven by both gross margin improvement and slightly lower interest expense as percentage of revenue. The SG&A expense percentage increased, so there was no cost cutting. **Correct Answer: C is incorrect** - The data shows SG&A expense as a percentage of revenue increased from 11.18% to 11.30%, indicating no cost cutting. **The most likely correct answer is B** - The significant improvement in gross margin (from 33.33% to 35.62%) suggests the company may be selling more differentiated, higher-margin products. **Note**: Since the provided text only shows options A, B, and C, and the correct answer is not explicitly given, based on financial statement analysis principles, option B is the most plausible answer given the data.

Author: LeetQuiz .