Question 3:

Samuel Linkletter is an importer of clay gardening pots. He has an agreement with a local gardening store, West City Gardening, to set up a display to sell his product. The average selling price for the pots is $20 and on average, they cost Samuel $12 each. Samuel expects to sell 400 pots each period. The owner of West City Gardening has proposed two options:

1. A fixed payment of $2,000 per month.

2. A fixed payment of $800 and, 10% of sales revenues earned during the term of the agreement

Required:

1. Calculate the degree of operating leverage for both options.
2. Calculate the number of units that must sold to result in the same operating income for both options. Determine at the number of units that are optimal for Option 1 and the number of units that are optimal for Option 2.