![]() Everything you need to know about break-even analysis, including how it works and its benefits and limitations, is right here.īreak-even analysis is an analytical approach for determining the level of output and sales volume at which a business ‘breaks even’, that is when revenues are adequate to cover all costs. In fact, it is an efficient financial measure for every entrepreneur or small business owner out there as it can provide them with information on whether they’ll need to borrow money to keep their business afloat or if their venture is even worth pursuing.īut, what is break-even analysis, though? Or what even is a break-even point? Well, conducting a break-even analysis is your go-to approach to understand when you can expect to start making a profit. Or, how can you determine whether a possible investment would at least cover the costs connected with launching a new product or purchasing new equipment? Thus, it’s a good move to keep your risk to a minimum before diving in.īut, how can you assess whether your business plans make any financial sense or not? Because, in the end, the ultimate goal of every business is to make money. But, starting a business or continuing one is not all hunky-dory. Or perhaps you’re just considering expanding your product line or recruiting more people. At sales levels below this level (S3), the amount by which the cost line is above the revenue line is loss.You may have a brilliant idea that inspires you to start a company or launch a new product. At sales levels above this level (S2), the amount by which the revenue line is above the cost line is profit. The level of sales where the two lines cross (S1) is the breakeven level of sales. The level of cost over this amount is the variable cost at various levels of sales. The cost at zero sales represents the fixed cost. The total cost line shows the total cost at each level of sales. The revenue line shows the total revenue at each level of sales. Revenue and costs are on the vertical axis. ![]() ![]() The level of sales is on the horizontal axis. As shown below, because we were computing breakeven price, the return over all costs is zero.Ī graphic representation is shown in Figure 1. ![]() Next compute the return over variable costs.įinally compute the return over all costs. To prove that the procedure is correct, go through the steps below. However, at higher prices, the product will be more difficult to sell. Notice that the higher the price, the smaller the quantity you will need to sell to break even. Next, divide total fixed cost by each contribution margin to compute the breakeven sales quantity. Select a range of sale prices and compute the contribution margin for each price. The example below helps explain the concept. The breakeven level is the number of units required to be produced and sold to generate enough contributions margin to cover fixed costs. It is the amount of money that the sale of each unit will contribute to covering total fixed costs. Contributions Margin is the “selling price less the variable costs per unit”, the denominator in the equation above. This can be computed under a range of sale prices with the formula below.Ī key concept of this formula is the Contributions Margin. One approach is to pick a sale price or a series of sale prices and compute how much of the product you will need to sell at each price to break even.īreakeven sales volume is the amount of your product that you will need to produce and sell to cover total costs of production. To do this you need to classify the costs into the managerial cost categories of variable and fixed costs. Because fixed costs need to be covered regardless of the number of units produced and sold, the number of units you produce and sell determines the price needed to break even. However, there is not a specific price level that you can charge that will assure you that you will cover your costs. Product price can be based on the cost of producing the product.
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