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Ethical issue at Omni Instruments: Error in CVP analysis

You have just begun your summer internship at Omni Instruments. The company supplies sterilized surgical instruments for physicians. To expand sales, Omni is considering paying a commission to its sales force. The controller, Matthew Barnhill, asks you to compute: 1) the new breakeven sales figure, and 2) the operating profit if sales increase 15% under the new sales commission plan. He thinks you can handle this task because you learned CVP analysis in your accounting class.

You spend the next day collecting information from the accounting records, performing the analysis, and writing a memo to explain the results. The company president is pleased with your memo. You report that the new sales commission plan will lead to a significant increase in operating income and only a small increase in breakeven sales.

The following week, you realize that you made an error in the CVP analysis. You overlooked the sales personnel's $2,800 monthly salaries and you did not include this fixed marketing cost in your computations. You are not sure what to do. If you tell Matthew Barnhill of your mistake, he will have to tell the president. In this case, you are afraid Omni might not offer you permanent employment after your internship.

1. How would your error affect breakeven sales and operating income under the proposed commission plan? Could this cause the president to reject the sales commission proposal?

2. Consider your ethical responsibilities. Is there a difference between (a) initially making an error and (b) subsequently failing to inform the controller?

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Solution Preview

1. The omission of sales base salaries in the CVP calculations will clearly affect breakeven sales because one of the costs has been omitted. A corrected breakeven sale amount will require more sales because the cost part of the equation was too little. Remember the formula for breakeven is Sales - Costs = 0.

Operating income would be ...

Solution Summary

The solution explains the effects of the error on net income analysis and then discusses the recommended action in this case. The action is supported by three reasons or consequences.