Do you know how many units you must sell to break even? Or when you are going to start seeing a profit? These questions can be answered by performing a Break-Even Analysis. Using this analysis, you evaluate the relationships between costs on one hand, and volume and pricing on the other to determine your break-even volume. Understanding how all these factors impact each other is crucial for your budgeting, product planning, and profit forecasting.
Reaching that break-even point is a business's first step toward profitability! So how do we get there? When conducting a Break-Even Analysis, you need to know your variable costs to produce one unit, your fixed costs, and the selling price of one unit.
Costs that are incurred to produce one unit are called variable costs. For example, variable costs include the cost you pay your manufacturer or wholesaler, costs you pay your prep center and shipping costs. Fixed costs are your “overhead” type costs or costs that don’t vary directly with unit volume. These include things like rent for your warehouse, software subscriptions, your bookkeeper and professional development courses. The selling price is a variable you can adjust based on your experience in the marketplace.
BREAKEVEN = FIXED COSTS / (SELLING PRICE - COST TO PRODUCE ONE UNIT).
For example, if it costs $50 to produce a unit and there are fixed costs of $1,000, the break-even point for selling the units would be:
If selling price is $100: 20 units (Calculated as 1000/(100-50)=20)
If selling price is $200: 7 units (Calculated as 1000/(200-50)=6.7)
As demonstrated in this example, if you sell the product for a higher price, the break-even point will come faster.
At bookskeep, we use financial reporting software called Fathom to perform this evaluation. The image below shows the data, results, and a graph of a sample Break-Even Analysis. The gray shaded area shows the fixed costs. The red line shows the variable costs added onto the fixed costs. The breakeven point is achieved where the revenue crosses the red line. The area in the upper right section of the graph where the red line is below the green line demonstrates profits. By reviewing these results with our clients, we can assist them in evaluating their cost structures and improve profitability.
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