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How Much Do You Have To Sell To Make How Much?
Break even points are a fundamental
concept in business. Essentially, it is that point where revenues cover
all costs. With a little manipulation, you can include a desired profit,
re investment requirements, and loan pay downs in the equation, and
determine what level of sales are required to achieve these goals
In order to find the break even point, first assemble the following
information.
Fixed expenses
These are costs that do not change with the volume of activity. These
include for example, rent, lease payments, fixed salaries etc.
Variable expenses
These are costs that vary with the volume of units produced. These
include, for example, direct costs such as materials, supplies, direct
production wages etc. Note that some cost include both fixed and
variable components. Segregate those the best you can.
Contribution margin per unit
This is the sales price per unit less the variable expenses per unit.
Breakeven calculation
Break even units = fixed expenses/contribution margin per unit
This makes sense right? Basically what it says that there is a direct
cost related to every item sold, which leaves you a "profit
per item", what is here called a "contribution margin".
This profit per item is only that though. There are other costs not
directly related to the item sold which must also be covered before the
business itself is profitable.
This calculation is a very powerful tool, and once you understand it,
you can see there is a lot more you can do with it.
You can for example analyze break even in terms of accounting income or
cash flow. Cash flow breakeven includes all non operating inflows and
outflows while accounting income break even excludes financing and
investment effects. Adding target profits to fixed costs gives you a
break even point that achieves that targeted profit.
For example:
Assume a sales price is $9.00 and a variable costs per unit of $4.25
Every item contributes $4.75 to profits. If your fixed costs are
$15,900, then the breakeven point is $15,900/$4.75 = 3,348 units
To achieve $4000 in profit for the owner, to re invest, and to pay down
debt, that would mean you would have to sell (15900+4000)/4.75 =
4,190 units.
See how powerful this equation is? It allows you to determine what sales
you need to achieve in order to earn what you need to pay all your
bills, and more importantly, want to earn as a profit.
© 2008 John B Voorpostel CA www.iaccountant.ca
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