Cost Management: A Strategic Emphasis 5th Edition by David Stout, Edward Blocher, Gary Cokins

Exercise 43

CVP Analysis, Strategy Hank’s Western Wear is a western hat retailer in Lubbock, Texas. Although Hank’s carries numerous styles of western hats, each hat has approximately the same price and invoice (purchase) cost, as shown in the following table. Sales personnel receive large commissions to encourage them to be more aggressive in their sales efforts. Currently, the Lubbock economy is really humming, and sales growth at Hank’s has been great. The business is very competitive, however, and Hank has relied on his knowledgeable and courteous staff to attract and retain customers who other­wise might go to other western wear stores. Because of the rapid growth in sales, Hank is also finding the management of certain aspects of the business, such as restocking of inventory and hiring and training new salespeople, more difficult.

Sales price	$ 45.00
Per unit variable expenses
Purchase cost	25.50
Sales commissions	4.50
Total per unit variable costs	$ 30.00
Total annual fixed expenses
Advertising	$ 22,000
Rent	18,000
Salaries	185,000
Total fixed expenses	$225,000

Required

1. Calculate the annual breakeven point in unit sales and dollar sales.

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2. If Hank’s sells 20,000 hats, what is its before-tax income or loss?

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3. If Hank’s sells 30,000 hats, what is its margin of safety and margin of safety ratio?

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4. Hank is considering the elimination of sales commissions completely and increasing salaries by $106,500 annually. What would be the new breakeven point in units? What would be the before-tax income or loss if 20,000 hats are sold with the new salary plan?

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5. Identify and discuss the strategic and ethical issues in the decision to eliminate sales commissions (see requirement 4). How do these strategic concerns affect Hank’s decision?

Step 1 of 11

Breakeven Point in Units

The breakeven point also known as the breakeven level is can be defined as that level of operations where the company’s revenue is just enough to meet its costs. It is the point at which the company makes no profit no loss and just meet its costs. The breakeven point has a profit equal to zero and revenues exactly equal to the total of variable and fixed costs incurred by the company.