Horton Company is a small but growing manufacturer of telecommunications equipment. The company has no sales force of its own; rather, it relies completely on independent sales agents to market its products. These agents are paid a sales commission of 20% for all items sold.

Carol Cooper, Hortons Controller, has just prepared the companys budgeted income statement for next year. The budgeted income statement follows:

As Carol handed the statement to Adam Engel, Hortons President, she commented, I went ahead and used the agents 20% commission rate in completing these statements, but weve just learned that they refuse to handle our products next year unless we increase the commission rate to 25%.

Thats the last straw, Adam replied angrily. Those agents have been demanding more and more, and this time theyve gone too far. How can they possible defend a 25% commission rate?

They claim after paying for advertising, travel, and other costs of promotion, theres nothing left over for profit, replied Carol.

I say its just plain too much, retorted Adam. And I also say its time we dumped those guys and got our own sales force. Can you get your people to work up some cost figures for us to look at?

Weve already worked them up, said Carol. Several companies we know about pay a 6.2% commission to their own sales people, along with a small salary. Of course, we would have to handle all promotion costs, too. We figure our fixed expenses would increase by $3,500,000 per year, but that would be more than offset by the $4,375,000 (25% x $17,500,000) that we would avoid on agents commissions.

The breakdown of the $3,500,000 cost follows:

Super, replied Adam, And I noticed that the $3,500,000 is just what were paying the agents under the old 20% commission rate.

Its even better than that, explained Carol. We can actually save $150,000 a year because thats what were having to pay the auditing firm now to check out the agents reports. So our overall administrative expenses would be less.

Put all of these numbers together and well show them to the executive committee tomorrow, said Adam. With the approval of the committee, we can move on the matter immediately.

Required:

1.) Calculate Horton Companys break-even point in sales dollars for next year assuming:

a. )The agents commission rate is increased to 25%.

b.) The company employs its own sales force.

c.) Explain what the break-even point is measuring and compare your results from 1a. and 1b.

2.) Assume that Horton Company decides to continue selling through agents and pays the 25% commission rate. Determine the volume of sales that would be required to generate the same net income as contained in the budgeted income statement for 2023.

3.) Determine the volume of sales at which net income would be equal regardless of whether Horton Company sells through agents (at a 25% commission rate) or employs its own sales force.

4.) Compute the degree of operating leverage that the company would expect to have on December 31, 2023, assuming:

a.) The agents commission rate is increased to 25%. b.) The company employs its own sales force. c.) Explain what operating leverage is measuring and compare your results from 4a. and 4b.

5.) Based on the data in 1. through 4. above, make a recommendation as to whether the company should continue to use sales agents (at a 25% commission rate) or employ its own sales force. Clearly explain your reasoning behind this recommendation.

Horton Company Budgeted Income Statement For the Year Ended December 31, 2023 Salaries: Horton Company Budgeted Income Statement For the Year Ended December 31, 2023 Salaries