Finance

How To Calculate Your Break-Even Point

Allison S Robinson | 10 January 2022 | 3 years ago

How to calculate your break-even point

As a business owners, it is important that you understand exactly how your business is performing at any given point in time. There are a few different measures you will use for this, but many of them involve knowing your break-even point. For this information, you will need to understand how to calculate your break-even point. But how do you go about doing that?

In this article, we will explain exactly what a break-even point is, why it is important to be aware of and how you can calculate it. We will also discuss how you can improve the breakeven point of your business to maximise your profitability. After all, the goal of any business is to turnover a profit and ultimately be successful.

What is a break-even point?

A break-even point (BEP) is the point at which a business’ total costs equal its total revenue. This means that the business is neither making a profit nor experiencing a loss.

At the break-even point, a business is operating in exactly the same way as it would if it were not making a profit. The only difference is that it is breaking even, rather than losing money. If the business is operating above the break-even point, it will be profitable, whilst if it is operating below the break-even point it will be making a loss.

Why is a break-even point important?

The break-even point is an important metric for business owners to understand, as it shows when their business will start to make a profit. After reaching the break-even point, the business will be making a profit on each unit sold.

Knowing your break-even point is essential for making informed business decisions, such as pricing products and deciding on production levels. If the break-even point is too high, the business may not be able to cover its costs with sales and will need to find ways to reduce expenses or increase revenue. Conversely, if the break-even point is too low, the business may be leaving money on the table by not charging more for its products.

There are a number of factors that can affect a business’ break-even point, such as the cost of goods sold, overhead costs, and sales volume. It is important for business owners to track these numbers as closely as possible, as this will help them stay on top of their expenses and revenue.

Calculating your break-even point

In order to calculate your break-even point, you will first need to know the fixed and variable costs of the business. Fixed costs are those expenses that remain the same even when the company experiences a change in sales. These fixed costs are also known as overhead. Variable costs are expenses that increase or decrease depending on how many items the business sells.

There are two different ways of calculating your break-even point: either in units sold or sales revenue. Let’s take a look at the break-even formula for each of these measures.

Break-even formula – units sold

To calculate how many units you need to sell to break-even, you will first need to subtract the variable cost per unit from the sales price per unit. You will then divide the fixed costs of your business by this number.

So, here’s the formula for calculating your break-even point by units sold.

Break-even point (units) = fixed costs / (sales price per unit – variable cost per unit)

Break-even formula – sales revenue

If you would prefer to calculate your break-even point based on the sales revenue you will need to achieve in order to break-even, you will first need to calculate your contribution margin. This figure is calculated by subtracting your variable cost per unit from your sale price per unit, and then dividing that number by the sale price per unit.

Contribution margin = (sale price per unit – variable price per unit) / sale price per unit

Once you know your contribution margin figure, you can then calculate your break-even point based on your revenue. To do this, simply divide your fixed costs by your contribution margin.

Break-even point (revenue) = fixed costs / contribution margin

What is breakeven point example_

What is breakeven point example?

Let’s take a look at an example of calculating a break-even point, to further explain how to calculate the breakeven point of your business.

Imagine a company that sells bath bombs. The company has fixed costs of £9,000 per month, which includes its rent and staff wages. Each bath bomb costs £1 to produce and is sold for £4. The company wants to work out how many bath bombs it needs to sell each month in order to break-even.

So, we will take the sales price per unit of £4 and subtract the variable cost per unit of £1, leaving £3. We will then divide the fixed costs of the business (£9,000) by this number, which gives us 3,000. This means that the company needs to sell 3,000 bath bombs every month in order to break-even.

If the business sold more than 3,000 bath bombs in a month, it would be making a profit. On the contrary, if the business sold less than 3,000 bath bombs in a month, it would be operating at a loss.

When you don’t meet your break-even point

There are a few different ways that a business can reach its break-even point. It can either increase its sales volume, reduce its fixed costs, or reduce its variable costs. If a company is unable to reach its break-even point through any of these methods, then it will be operating at a loss.

In some cases, a business might choose to operate at a loss in order to gain market share or to increase its revenue in the long term. If the company is not able to reach this volume through regular sales, then it might lower its product prices below what it actually costs them to produce in order to attract more buyers. This would be a strategic decision made by the company’s management in order to stay afloat and improve its future prospects.

Does every business have the same break-even point?

While calculating a break-even point is a useful exercise for any business, it is important to note that not all businesses will have the same break-even point. For instance, a small business that operates out of a home might have a much lower break-even point than a large corporation. This is because the small business has much lower fixed costs, such as rent and employee salaries. Conversely, the large corporation will have higher fixed costs due to its size and the many departments that it must operate.

Is a high break-even point good?

If you have a high break-even point, this means that you will need to turnover more revenue before your business begins to make a profit. If your break-even point increases, there could be many reasons for this, including an increase in fixed costs, an increase in variable costs or a decrease in the sale price of your products or services.

If you’re hoping to achieve high profit margins, a low break-even point would be ideal for your business. This means that you won’t have to sell as many units before you begin making a profit, helping to boost the profit that your business is making.

What can improve break even point_

What can improve break-even point?

If you find that a high break-even point is holding your business back and preventing you from achieving the profit margins that you’re aiming for, you might be looking for ways to improve your break-even point. This means lowering the revenue that your business needs to generate before it becomes profitable.

There are three key ways in which you can lower your break-even point and help your business to become more profitable:

  • Reduce fixed costs
  • Reduce variable costs
  • Increase sale price
Let’s take a look at each of these three methods of improving the breakeven point of your business.

Reduce fixed costs

Reducing your business’ fixed costs is a great way to lower the break-even point of your business and increase your profitability. Your business’ fixed costs may include things like rent for your warehouse or store, insurance costs, paying your staff or depreciation of your equipment. If you can reduce the costs of any of these things, you will be reducing the breakeven point of your business, enabling you to make higher levels of profit.

Reduce variable costs

Another way to lower the break-even point of your business is by reducing your variable costs. The variable costs typically relate directly to the volume of sales that you make, so the more sales you make, the higher your variable costs will be. These usually include the raw cost of materials, delivery and shipping charges, commission paid to staff and advertising costs. By reducing how much it costs to produce each unit that your company sells, you can reduce your breakeven point whilst maximising your profitability.

Increase sale price

If you want to increase the profitability of your business, one option is to increase the sale price of your products or services. However, it is important that you carefully consider what those prices will increase to before making the move, or you could risk losing customers and ultimately reducing your turnover instead of increasing it.

Although you may find that the sales volume reduces as your prices increase, as long as the increase in sale price is greater than the reduction in sales volume, your business will still be more profitable. This increase in sales price will naturally lower the break-even point of your business, helping you to increase your profit margins.

Related questions

How do you break-even in a business?

If a business is breaking even, this means that it is turning over enough revenue to covers its expenses and avoid making a loss. However, a business that is breaking even is not turning over a profit – instead it is doing just enough to survive. In order to be profitable, a business needs to exceed its breakeven point, meaning that it has money left over in the bank after fixed and variable costs have been paid.

Why is it important to break-even?

The aim of every business is to make a profit, enabling the business to continue to thrive. The break-even point is the point at which the business covers all of its expenses, from fixed costs such as employee salaries and rent to the variable costs including raw materials and shipping fees. If a business does not break-even, it means that it is operating at a loss and will not make a profit. When a business reaches the break-even point, it means that it is not making a loss or a profit. It will need to exceed that break-even point to make a profit.

In summary

The break-even point is an important measure for every business, as it marks the point at which the business has covered all of its costs and will no longer be making a loss. If the business exceeds this breakeven point, it will be making a profit, something that every business aims for.

If your business is not achieving its break-even point, you have three options: reduce your fixed costs, reduce your variable costs or increase the sale price of your products or services. These are the only ways in which you can lower the breakeven point of your business, helping you to secure a profit.

Topic

Finance

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