3. ABC Travel Agency specializes in flights between Los Angeles and London. It books passengers on America Airlines at $900 per round-trip ticket. Until last month, America Airlines paid ABC a commission of 10% of the ticket price paid by each passenger. This commission was ABC’s only source of revenues. ABC’s fixed costs are $14,000 per month (for salaries, rent, and so on), and its variable costs are $20 per ticket purchased for a passenger. This $20 includes a $15 per ticket delivery fee paid to Federal Express. (To keep the analysis simple, we assume each round-trip ticket purchased is delivered in a separate package. Thus, the $15 delivery fee applies to each ticket.) • Under the old 10% commission structure, how many round-trip tickets must ABC Travel Agency sell each month (a) to break even and (b) to earn an operating income of $7,000? What is the meaning of the break-even-point for ABC?
Selling price (900*10%) 90
Variable cost 20
Contribution 70
Fixed cost
• How does America Airlines’s revised payment schedule affect your answers to (a) and (b) in requirement 1? What are the consequences of this decision for ABC and which are the measures ABC could take to smooth the effects?