Break-Even Analysis
Snapshot
Do you know exactly how much sales your business will need to generate to cover your expenses? This article will take you through a 4 step process to determine your break-even sales.
Who Should Read it:
If you are someone who wants to grow their business or improve their financial health you should read.
Key Points:
- Determine what sales level will allow a business to cover its costs
- Determine how much sales a business can produce to generate a desired profit
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Complete article
Break-even analysis determines what sales level will allow a business to cover its costs and, therefore, break-even.
Break-even analysis is useful in making sound decisions regarding such things as pricing, expense control, expansion of facilities, etc. Understanding break-even helps a business to determine exactly how much sales they can produce to generate a desired profit.
The 4 Steps to Determining Break-Even
Step 1: Identify Fixed and Variable Costs
Fixed costs are those that do not vary, regardless of sales volume. Examples include: rent, insurance, officer salaries, management salaries, depreciation, advertising, most utilities. Advertising, travel and entertainment costs are usually budgeted at the beginning of the year and do not vary because of sales. Advertising causes sales, sales do not cause advertising.
Variable costs are the costs that follow directly the upward and downward movement of sales volume. Sales cause variable costs; if there are no sales, there are no costs. Examples include: sales commissions, direct labor, raw materials, freight, bad debts, etc.
Note: if you are in doubt about whether a cost is fixed or variable, then classify it as fixed. This will give you a more conservative break-even point.
Step 2: Variable Cost Percentage
Once you have determined the fixed and variable costs, it is time to relate the variable costs to sales. This is accomplished by dividing the total variable costs by sales in order to arrive at the variable cost percentage.
Step 3: Solve for Contribution Margin
The difference between sales and variable costs is called contribution margin. Contribution margin is the amount remaining after paying variable costs. This is measured as a percentage. In order to solve for contribution margin, subtract the variable cost percentage from the total sales percentage. For example, Sales is 100% and Variable Costs are 25%; subtract 25% from 100% and you get 75%; the Contribution Margin is 75%
Step 4: Calculate the Break-Even Sales Volume
In this final step, divide the contribution margin percentage into the fixed cost total. This will give you the sales level required to break-even.
Example:
Fixed Cost = $1,000,000
Variable Cost = 25% of sales
Contribution Margin = 75%
Break-Even Sales = $1,000,000/75% = $1,333,333
Comments
sales2007(unit):4545
(peso):29.55 million
market share: 40%
net profit: 4.032 million
sales2008(unit):5000
(peso):35 million
market share2008:46%
net profit2008:5.8 million
total fixed cost is 3.3 million in 2007 & 3.8million in 2008.
unit variable cost is 5000 and by adding a mark-up 40% on unit variable cost arrives at unit selling price.
it normally sells an annual average of 4500 units. incurs ordering cost of 20000 while carrying cost is placed at 2% of unit selling price.
question:
1. percentage increase in rturn on sales for 2007
2. break even unit sales volume for 2007
3. unit sales volume to realize 2008 net profit
4. economic order quantity(unit)
5. break even unit selling price for 2008
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