Pittman Company

Budgeted Income Statement

For the Year Ended December

Sales $ 16,000,000
Manufacturing Cost
Variable $ 7,200,000
Fixed Overhead $ 2,340,000 $ 9,540,000
Gross Margin $ 6,460,000
Selling and administrative cost
Commission to agents $ 2,400,000
Fixed marketing cost $ 120,000
Fixed administrative cost $ 1,800,000 $ 4,320,000
Net operating income $ 3,240,000
Fixed interest cost $ 540,000
income Before income taxes $ 1,600,000
Income Taxes 30% $ 480,000
Net Income $ 1,120,000

a. When Commision rate remains unchanged at 15%

Sales $ 16,000,000
Less variable expenses
Manufacturing $ 7,200,000
Commission 15% $ 2,400,000
Total variable expenses $ 9,600,000
Contribution margin $ 6,400,000
Less fixed expenses
Manufacturing overhead $ 2,340,000
Marketing $ 120,000
Administrative $ 1,800,000
Interest $ 540,000
Total fixed expenses $ 4,800,000
Income before income taxes $ 1,600,000
Income taxes 30% $ 480,000
Net Income $ 1,200,000
 Breakeven point 15% = Fixed costs/ CM Ratio
= 4800000 /0.4
= $ 12,000,000

b. When Commision rate remains unchanged at 20%

Sales $ 16,000,000
Less variable expenses
Manufacturing $ 7,200,000
Commission 15% $ 3,200,000
Total variable expenses $ 10,400,000
Contribution margin $ 6,400,000
Less fixed expenses
Manufacturing overhead $ 2,340,000
Marketing $ 120,000
Administrative $ 1,800,000
Interest $ 540,000
Total fixed expenses $ 4,800,000
Income before income taxes $ 800,000
Income taxes 30% $ 240,000
Net Income $ 560,000

Breakeven point 15% = Fixed costs/ CM Ratio

= 4800000 /0.35
= $ 13,714,286

c. When Company employs its own sales force

Sales $ 16,000,000
Less variable expenses
Manufacturing $ 7,200,000
Commission 15% $ 1,200,000
Total variable expenses $ 8,400,000
Contribution margin $ 7,600,000
Less fixed expenses
Manufacturing overhead $ 2,340,000
Marketing $ 2,520,000
Administrative $ 1,725,000
Interest $ 540,000
Total fixed expenses $ 7,125,000
Income before income taxes $ 475,000
Income taxes 30% $ 142,500
Net Income $ 332,500

Breakeven point 15% = Fixed costs/ CM Ratio

= 7125000 /0.475
= $ 15,000,000

2 Volume of state to generate same net income as contained in the budgeted 20%

Dollar Sales to attain target= (fixed expense + target income before taxes) / CM Ratio
= (4800000 + 1600000) /0.35
= $ 18,285,714

3 Volume of sales wich net income be equal to pittman company sells through agent

X = TOTAL SALES REVENUE

0.65X + 4800000 = 0.525 X + 7125000
0.125X= 2325000
X = 2325000 / 0.125
X= $ 18,600,000

4 Operating leverage
a. The agent's commission rate unchanged 15%
DOL= CM/ Net Income
DOL= 6400000/1600000
DOL= 4

a. The agent's commission rate unchanged 15%

DOL= CM/ Net Income
DOL= 5600000/800000
DOL= 7

a. The agent's commission rate unchanged 15%

DOL= CM/ Net Income
DOL= 7600000/4750000
DOL= 16
5 First, use of the sales agents would have a less dramatic effect on net income.

Second, use of the sales agents for at least one more year would give the company

Third, the sales force plan doesn’t become more desirable than the use of sales age

Fourth, the sales force plan will be highly leveraged since it will greatly increase fixe
100%

60%
40%
100%

65%
35%

100%

52.5%
47.5%
e budgeted 20%

e taxes) / CM Ratio

sells through agent

effect on net income.

ar would give the company more time to hire competent people and get the sales group organized.

le than the use of sales agents until the company reaches sales of $18,600,000 a year

e it will greatly increase fixed costs (and decrease variable costs).

group organized.
1 With absorption costing the net operating income relies on both production and sale
correct in his explanation, however he could have maybe explained better how sinc
under applied amount of overhead from their reduction in produced items and that
that they were not able to absorb all of the fixed manufacturing costs into units of pr
why you see this drop in net operating income for the second quarter.

Sales
Variable Expenses
Variable cost of good sold
Variable selling and administrative expenses
Total Variable Expenses
Contribution Margin
Fixed Expenses
Fixed Manufacturing overhead
Fixed selling and administrative expense
Total Fixed expense

Net Operating Income (Loss)

Selling and administrative expenses 200000

Less variable Portion 60000
Total Fixed Selling administrative expense 140000

Variable costing net operating income

Deduct : Fixed Manufacture overhead inv. First Quarter
add Deduct : Fixed Manufactur overhead inv. First to Second Quarter
add Fixed Manufactur overhead inv. Second Quarter to future

Absorption costing net operating income

4 There are severeral advantage to using the variable costing method
1. Make it easier to estimate the profitability of product
2. profit is unchanged by changes in inventories
3. Profit and sales move in the same direction

5a Assume that the company had introduced Lean Production at the beginning of the s
resulting in zero ending inventory. (Sales and production during the first quarter rem

Unit sold 15000

Less unit in inventory 7000
unit produce in second quarter 8000

b Starting with the third quarter there would be little or no difference between the net o
income reported under absorption costing and variable costing because there woul
inventories. This would make it impossible to incorporate the fixed manufacturing ov
between the periods.
 relies on both production and sales so he was
maybe explained better how since they had an
uction in produced items and that by producing less
manufacturing costs into units of production. That is
the second quarter.

First Quarter Second Quarter

$ 480,000 $ 600,000

$ 96,000 $ 120,000
$ 60,000 $ 75,000
$ 156,000 $ 195,000
$ 324,000 $ 405,000

$ 180,000 $ 180,000
$ 140,000 $ 140,000
$ 320,000 $ 320,000

$ 4,000 $ 85,000

First Quarter Second Quarter

4000 85000
-48000
t to Second Quarter 84000 -84000
ter to future 12000

40000 13000
le costing method
lity of product

roduction at the beginning of the second quarter

duction during the first quarter remain the same.)

or no difference between the net operating

riable costing because there would be a lack of
rporate the fixed manufacturing overhead cost