Question

A manufacturer is considering a switch from manufacturers’ representatives to an internal sales force. The following cost estimates are available. Manufacturers’ reps are paid 8.1% commission and incur $600,000 in fixed costs, while an internal sales force has fixed costs projected at $1,900,000 and would receive 2.6% commission. Assume that sales revenue is double the breakeven volume or the point at which the manufacturer would be indifference between reps and an internal sales force. At this volume, how much would the manufacturer save, assuming the company had switched to an internal sales force? Report your answer in dollars.

Answer 1

manufacturer reps (MR)

fixed cost $600000 and variable cost of 8.1% of revenue ( problem is silent about on what 8.1% will applicable profit or revenue , hence we considering 8.1% on revenue because mostly commission paid on revenue )

internal sales force (ISF)

Fixed cost of $1900000 and 2.6% commission as variable cost (problem is silent about on what 2.6% will applicable profit or revenue , hence we considering 2.6% on revenue because mostly commission paid on revenue)

indifference point is the sales at which the total costs under both alternatives are same

assume x number of units and selling price is $y so total revenue at indifference point is $xy

and assume $abc is the other costs in addition to the two alternatives

hence at the indifference point

$abc+ 8.1% of xy +$600000 = $abc +2.6% of xy + $1900000

=> 8.1xy/100 + $600000 = 2.6xy/100 + $1900000

=> 0.081xy- 0.026xy = $1900000-$600000

=> 0.055xy = $1300000

=> xy = 1300000/0.055 = $23636364 ( rounded off ) ----> revenue at indifference point and is equal to the break even sales too as that was told in the problem

problem told the sales are double to the break even sales means 2* 23636364$ = $47272727

above the break even sales we are not incurring fixed costs as we already charged that in break even sales so

on and above the break even sales we incur only variable cost

in the present case we are calculating only the comparative profit of the 2 options

hence we are not considering all other variable costs and only considering the costs of both the alternatives only

continuing with the manufacturing reps will cost 8.1% of revenue and $600000

=> (8.1*47272727/100 ) + 600000 = $4429090 --------> cost for MR

for sales force cost 2.6% of 4727272 + 1900000$

=> (2.6*47272727/100) + 1900000 = $3129091------- > cost of ISF

cost of internal sales force is less by ( 4429090-3129091) = $1299999

hence the profit if the company changes from MR to ISF is $ 1299999