Question

yeshi

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: 24,000,000 3231 14,160,000 9,840,000 Pittman Company Budgeted Income Statement For the Year Ended December 31 Sales Manufacturing expenses: Variable Fixed overhead Gross margin Selling and administrative expenses Commissions to agents Fixed marketing expenses Fixed administrative expenses 2,120,000 Net operating income Fixed interest expenses Income before income taxes Income taxes (30%) Net income nes 5,888.000 3,952,000 840.000 3,112,000 933,600 $ 2,178,400 . Primarily depreciation on storage facilities. contadion on tore te vor vete, peman's president she comment 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%." mmission rate to be angrily. Those ogrets "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?" commision agents have "They claim that after paying for advertising, travel, and the other costs of promotion, there's nothing left over for profit," replied Barbara paying for "I say it's just plain robbery," retorted kort. "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 $3,600,000 per year, but that would be more than offset by the $4,800,000 (20%*$24,000,000) that we would avoid on agents commissions." The breakdown of the $3,600,000 cost follows: Salaries: Sales manager Salespersons Travel and entertainment Advertising Total $ 150,000 900,000 600,000 1,950,000 $3,600,000

Answer 1

Option 1: Increase commission rate to 20%				Option 2: Own Sales Force
Pittman Company				Pittman Company
Budgeted Income Statement				Budgeted Income Statement
For the year ended December 31				For the year ended December 31
Sales		24000000		Sales		24000000
Manufacturing Expenses:				Manufacturing Expenses:
Variable	10800000			Variable	10800000
Fixed Overhead	3360000	14160000		Fixed Overhead	3360000	14160000
Gross Margin		9840000		Gross Margin		9840000
Selling and Administrative Expenses:				Selling and Administrative Expenses:
Commissions to Agents	4800000			Commissions to Sales People	1800000
Fixed Marketing Expenses	168000			Fixed Marketing Expenses	3768000
Fixed Administrative Expenses	2120000	7088000		Fixed Administrative Expenses	2120000	7688000
Net Operating Income		2752000		Net Operating Income		2152000
Fixed Interest Expenses		840000		Fixed Interest Expenses		840000
Income before Income Taxes		1912000		Income before Income Taxes		1312000
Income Taxes (30%)		573600		Income Taxes (30%)		393600
Net Income		1338400		Net Income		918400
Thus, Option 1 of Increasing the agents' commission rate to 20% is more viable than having own sales force as the Net Income with 20% commission is more than that with own sales force.