the Statement of Income of Davao, Inc.

which represents the operating results for the current fiscal year ending
December 31. Davao had sales of 1,800 tons of product during the current year. The manufacturing capacity of
Davaos facilities is 3,000 tons of product. Consider each questions situation separately.
Sales P900,000
Variable costs
Manufacturing P315,000
Selling costs 180,000
Total variable costs P495,000
Contribution margin P405,000
Fixed costs
Manufacturing P 90,000
Selling 112,500
Administration 45,000
Total fixed costs P247,500
Net income before income taxes P157,500
Income taxes (40%) (63,000)
Net income after income taxes P 94,500
1. The breakeven volume in tons of product for the year is
2. If the sales volume is estimated to be 2,100 tons in the next year, and if the prices and costs stay at the
same levels and amounts next year, the after-tax income that Davao can expect for next year is
3. Davao has a potential foreign customer that has offered to buy 1,500 tons at P450 per ton. Assume that all
of Davaos costs would be at the same levels and rates as last year. What net income after taxes would
Davao make if it took this order and rejected some business from regular customers so as not to exceed
capacity?
4. Without prejudice to your answers to previous questions, and assume that Davao plans to market its
product in a new territory. Davao estimates that an advertising and promotion program costing P61,500
annually would need to be undertaken for the next two or three years. In addition, a P25 per ton sales
commission over and above the current commission to the sales force in the new territory would be
required. How many tons would have to be sold in the new territory to maintain Davaos current after-tax
income of P94,500?
5. Without prejudice to preceding questions, assume that Davao estimates that the per ton selling price will
decline 10% next year. Variable costs will increase P40 per ton and the fixed costs will not change. What
sales volume in pesos will be required to earn an after-tax income of P94,500 next year?

Pullman 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 commission of 15% of selling price for all items sold.

Maui Soliman, Pullmans controller, has just prepared the companys budgeted income statement for next year. The
statement follows:

Pullman Company
Budgeted Income Statement
For the Year Ended December 31
Sales P16,000,000
Manufacturing costs:
Variable P7,200,000
Fixed overhead 2,340,000 9,540,000
Gross margin 6,460,000
Selling and administrative costs:
Commissions to agents 2,400,000
 Fixed marketing costs* 120,000
Fixed administrative costs 1,800,000 4,320,000
Net operating income 2,140,000
Less fixed interest cost 540,000
Income before income taxes 1,600,000
Less income tax (30%) 480,000
Net income P1,120,000
*Primarily depreciation on storage facilities

As Maui handed the statement to Kim Viceroy, Pullmans president, she commented, I went ahead and used the
agents 15% commission rate in completing these statements, but weve just learned that they refuse to handle our
products next year unless we increase the commission rate to 20%.

Thats the last straw, Kim replied angrily. Those agents have been demanding more and more, and this time
theyve gone too far. How can they possibly defend a 20% commission rate?

They claim that after paying for advertising, travel, and the other costs of promotion, theres nothing left over for
profit, replied Maui.

I say its just plain robbery, retorted Kim. And I also say its 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?

Weve already worked them up, said Maui. 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 costs would increase by P2,400,000 per year, but that would be more than offset by the P3,200,000 (20% x
P16,000,000) that we would avoid on agents commissions.

The breakdown of the P2,400,000 cost figure follows:

Salaries:
Sales manager P 100,000
Salespersons 600,000
Travel and entertainment 400,000
Advertising 1,300,000
Total P2,400,000

Super, replied Kim. And I note that the P2,400,000 is just what were paying the agents under the old 15%
commission rate.

Its even better than that, explained Maui. We can actually save P75,000 a year because thats what were having
to pay the auditing firm now to check out the agents reports. So our overall administrative costs would be less.

Pull all of these number together and well show them to the executive committee tomorrow, said Kim. With the
approval of the committee, we can move on the matter immediately.

1. What is the breakeven point in pesos for next year assuming that the agents commission rate remains
unchanged at 15%?
2. What is the breakeven point in pesos for next year assuming that the agents commission rate is increased
to 20%?
3. What is the breakeven point in pesos for next if the company employs its own sales force?
4. Assume that Pullman Company decides to continue selling through agents and pays the 20% commission
rate. The volume of sales that would be required to generate the same net income as contained in the
budgeted income statement for next year would be:
5. The volume of sales at which net income would be equal regardless of whether Pullman Company sells
through agents at a 20% commission rate or employs its own sales force: