Pittman 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 15% for all items sold. Barbara Cheney, Pittman's controller, has just prepared the company's budgeted income statement for next year as follows: Pittman Company Budgeted Income Statement For the Year Ended December 31 Sales $ 16,000,000 Manufacturing expenses: Variable $7,200,000 Fixed overhead 2,340,000 9,540,000 Gross margin 6,460,000 Selling and administrative expenses: Commissions to agents 2,400,000 Fixed marketing expenses 120,000* Fixed administrative expenses 1,800,000 4,320,000 Net operating income 2,140,000 Fixed interest expenses 540,000 Income before income taxes 1,600,000 Income taxes (30%) 480.000 Net income $ 1,120,000 *Primarily depreciation on storage facilities. As Barbara handed the statement to Karl Vecci, Pittman's president, she commented, "I went ahead and used the agents' 15% commission rate in completing these statements, but we've just learned that they refuse to handle our products next year unless we increase the commission rate to 20%." That's the last straw," Karl replied angrily. "Those agents have been demanding more and more, and this time they've gone too far. How can they possibly defend a 20% commission rate?" "They claim that after paying for advertising, travel, and the other costs of promotion, there's nothing left over for profit," replied Barbara. "I say it's just plain robbery," retorted Karl. "And I also say it's 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? We've already worked them up," said Barbara. "Several companies we know about pay ITUL LUI I1PUVUU *Primarily depreciation on storage facilities. As Barbara handed the statement to Karl Vecci, Pittman's president, she commented, I went ahead and used the agents' 15% commission rate in completing these statements, but we've just learned that they refuse to handle our products next year unless we increase the commission rate to 20%." "That's the last straw," Karl replied angrily. "Those agents have been demanding more and more, and this time they've gone too far. How can they possibly defend a 20% commission rate?" "They claim that after paying for advertising, travel, and the other costs of promotion, there's nothing left over for profit, replied Barbara. "I say it's just plain robbery," retorted Karl. And I also say it's 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?" "We've already worked them up," said Barbara. "Several companies we know about pay a 7.5% commission to their own salespeople, along with a small salary. Of course, we would have to handle all promotion costs, too. We figure our fixed expenses would increase by $2,400,000 per year, but that would be more than offset by the $3,200,000 (20% $16,000,000) that we would avoid on agents' commissions.' The breakdown of the $2,400,000 cost follows: Salaries: Sales manager $ 100,000 Salespersons 600,000 Travel and entertainment 400,000 Advertising 1,300,000 Total $2,400,000 "Super," replied Karl. And I noticed that the $2,400,000 equals what we're paying the agents under the old 15% commission rate." "It's even better than that," explained Barbara. "We can actually save $75,000 a year because that's what we're paying our auditors to check out the agents' reports. So our overall administrative expenses would be less." "Pull all of these numbers together and we'll show them to the executive committee tomorrow," said Karl. "With the approval of the committee, we can move on the matter immediately." Make a recommendation as to whether this company should continue to use sales agents (at a 20% commission rate) or employ its own sales force. Give reasons for your answer. I computed the information below. Just need help understanding the results and answering the highlighted question. Thanks Break-even point in dollar sales 12,000,000 Working notes BEP dollar sales) = fixed expense/contribution margin ratio 15% comm 16,000,000 20% comm 16,000,000 7.5% comm 16,000,000 100% 100% 100% Fixed cost Contribution margin 4,800,000 40.00% Sales Variable expenses: manufacturing comissions (15% 20%, 7.5%) total variable expense contribution margin 7,200,000 2.400,000 9,600,000 6,400,000 7.200,000 3200000 10,400,000 5,600,000 7.200,000 1200000 8,400,000 7,600,000 60.00% 40.00% 65.00% 35.00% 52.50% 47.50% b) 13,714,286 Break even point in dollar sales 4,800,000/35.00% c) 15.000.000 Break even point in dollar sales 7.125,000/47.50% fixed expenses manufacturing overhead marketing administrative interest total fixed expense income before income taxes income taxes (30%) net income 2,340,000 120,000 1,800,000 540.000 4.800,000 1,600,000 490000 1. 120.000 2,340,000 120,000 1,800,000 540.000 4,800,000 800,000 240000 560,000 2,340,000 2,520,000 1,725,000 540,000 7,125,000 475,000 142500 332.500 Voulme of sales (in dollars) 18.285.714 (Target income before taxes fixed expense)/contribution margin ratio (1,600,000 + 4,800,000/35.00% Voulme of Sales (in dollars) 18.600.000 increase in fixed expense-marketing saving in administrative expense 2,400,000 -75000 X = total revenue .65 X +4,800,000 525x +7,125,000 0.125 x = 2,325,000 x = 18,600,000 a) Degree of operating leverage 6,400,000/1.600.000 Degree of operating leverage 5,600,000/800,000 Degree of operating leverage 7,600,000/475,000 degree of operating leverage contribution marging/income before taxes