Concept explainers
Niagra Falls Sporting Goods Company, a wholesale supply company, engages independent sales agents to market the company’s products throughout New York and Ontario. These agents currently receive a commission of 20 percent of sales, but they are demanding an increase to 25 percent of sales made during the year ending December 31, 20x2. The controller already prepared the 20x2 budget before learning of the agents’ demand for an increase in commissions. The budgeted 20x2 income statement is shown below. Assume that cost of goods sold is 100 percent variable cost.
The company’s sales manager, Joey Dulwich, is considering the possibility of employing full-time sales personnel. Three individuals would be required, at an estimated annual salary of $30,000 each, plus commissions of 5 percent of sales. In addition, a sales manager would be employed at a fixed annual salary of $160,000. All other fixed costs, as well as the variable cost percentages, would remain the same as the estimates in the 20x2
Required:
- 1. Compute Niagra Falls Sporting Goods’ estimated break-even point in sales dollars for the year ending December 31, 20x2, based on the budgeted income statement prepared by the controller.
- 2. Compute the estimated break-even point in sales dollars for the year ending December 31, 20x2, if the company employs its own sales personnel.
- 3. Compute the estimated volume in sales dollars that would be required for the year ending December 31, 20x2, to yield the same net income as projected in the budgeted income statement, if management continues to use the independent sales agents and agrees to their demand for a 25 percent sales commission.
- 4. Compute the estimated volume in sales dollars that would generate an identical net income for the year ending December 31, 20x2, regardless of whether Niagra Falls Sporting Goods Company employs its own sales personnel or continues to use the independent sales agents and pays them a 25 percent commission.
1.
Calculate the break-even point (in dollars) for N F S G Company.
Explanation of Solution
Break-Even Point: It is the point of sales at which entity neither earns a profit nor suffers a loss. It can also be said that the point of sales at which sales value of the entity recovers the entire cost of fixed and variable nature is called break-even point.
The formula to calculate the break-even point in sales dollars is as follows:
Contribution Margin ratio: It is a ratio that measures the contribution margin generated by the company from the sales to make it avialable for paying the fixed cost and generate a profit. It is expressed as percentage of margin available from each dollar sales to pay fixed expenses and to provide profit. The formula to calculate the contribution margin ratio is as follows:
Calculate the break-even point.
Working note:
- a) Calculate the contribution margin ratio.
2.
Calculate the estimated break-even point (in dollars) if the sales personnel are employed.
Explanation of Solution
Calculate the estimated break-even point (in dollars).
Working notes:
- b) Calculate the new fixed expenses.
New fixed expenses | |
Particulars | Amount ($) |
Previous fixed expenses | $100,000 |
Sales personnel salaries (c) | 90,000 |
Sales manager’s salary | 160,000 |
Total | $350,000 |
Table (1)
- c) Calculate the sales personnel salaries.
- d) Calculate the new contribution margin.
Particulars | Amount ($) |
Sales | $10,000,000 |
Cost of goods sold | 6,000,000 |
Gross margin | $4,000,000 |
Commissions (at 5%) | 500,000 |
Contribution margin | $3,500,000 |
Table (2)
- e) Calculate the contribution margin ratio.
3.
Calculate the sales volume (in dollars) to attain after- tax net income of $1,330,000.
Explanation of Solution
Target Profit: It refers to the desired amount of profit that a company expects to achieve by the end of an accounting period after it reaches its break-even point. Thus, the company needs to compute the required sales to earn the target profit.
Calculate the sales volume (in dollars).
Calculate the new contribution margin ratio.
Working note:
- f) Calculation of new contribution margin by assuming sales commission increases to 25%.
Particulars | Amount ($) |
Sales | $10,000,000 |
Cost of goods sold | 6,000,000 |
Gross margin | $4,000,000 |
Commissions (at25%) | 2,500,000 |
Contribution margin | $1,500,000 |
Table (3)
4.
Calculate the sales volume (in dollars) to attain before- tax income is same under the two alternatives.
Explanation of Solution
There is no change in tax rate if the management chooses any one of the approach. We can find the sales volume so that the company’s before tax income is the same under the alternatives.
If the sales volume is $1,250,000 the company will have the same before tax income under the two alternatives.
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Chapter 7 Solutions
Managerial Accounting: Creating Value in a Dynamic Business Environment
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