Beta company sells blouses in Washington, USA. Blouses are imported from Pakistan and are sold to customers in Washington at a profit. Salespersons are paid basic salary plus a decent commission on sales made by them. Sales and expense data is given below:

Selling price per blouse $80.00
———
Variable expenses per blouse:
Invoice cost $36.00
Sales commission $14.00
———
Total $50.00
———
Annual fixed expenses:
Rent $160,000
Marketing  $300,000
Salaries  $140,000
———
Total $600,000
———

Required:

  1. Compute the number of units to be sold to break-even.
  2. Prepare a CVP graph (break-even chart) and show the break-even point on the graph.
  3. If the manage is paid a commission of $6 blouse (in addition to the salesperson’s commission), what will be the effect on company’s break-even point?
  4. As an alternative to (3) above, company is thinking to pay $6 commission to manager on each blouse sold in excess of break-even point. What will be the effect of these changes on the net operating income or loss of the Beta company if 23,500 blouses are sold in a year?
  5. Refer to the original data. What will be the break-even point of the company if commission is entirely eliminated and salaries are increased by $214,000? Should the company make this change?

Solution:

(1) Calculation of break-even point:

Fixed expenses / Contribution margin per unit

$600,000 / $30

20,000 units

or

20,000 units × $80 = $1,600,000

(2) CVP graph or break-even chart:

cvp-graph-breakeven-chart

(3) Break-even point if manager is also paid a commission of $6 per blouse sold:

The payment of a commission of $6 to manager will decrease the unit contribution margin and increase the number of units required to sell to break-even.

$600,000 / $24

25,000 Units

Now the company requires 25000 units or $2,000,000 in sales just to break-even.

(4) Effect on net operating income or loss if manager is paid a commission of $6 on each blouse sold after break-even point:

Sales (23,500 × $80) $ 1,880,000
Less variable expenses (23,500 × $50) 1,175,000
————
705,000
Less manager’s commission [(23,500 – 20,000) × 6] 21,000
————
684,000
 Fixed expenses 600,000
————
Net operating income 84,000
————

(5) Break-even point after elimination of commission and increase in salaries:

$814,000 /$44

18,500 units

or

18,500 × $80 = $14,80,000

Fixed cost after change: $600,000 + 214,000 = 814,000
Unit contribution margin after change: $80 – $36 = $44

With the new system, Beta company will start making profits after selling $18,500 units but with the old system company needs to sell 20,000 units before making any profit. The change should, therefore, be implemented.