Your company’s break-even point occurs when your revenue equals your fixed costs.
Analyzing your break-even point helps you set a price for your product and helps you understand the impact of various price or sales-volumes scenarios. You can also analyze your break-even point to understand how a price change, new investment, or changes to your variable costs will affect your business.
Factors to Consider
When you’re calculating your break-even point, you’ll want to consider your fixed costs, variable costs, and selling price.
Fixed costs won’t change based on how many units of your product you produce or sell. They include:
salaries and wages of your office staff and salespeople,
advertising expenses, and
Your break-even point looks at your fixed costs relative to the profit earned on each unit of product produced and sold. In general, the lower your fixed costs, the lower your break-even point.
Variable costs, however, change based on how many units of your product you produce and sell. They include:
plant or warehouse utilities, and
Setting the right price for your product can greatly affect your break-even point and how quickly you’ll start generating a profit. If you set your price too high, your break-even point may be lower, but it might be more difficult to reach that point.
Before you calculate your break-even point, calculate your contribution margin. Your contribution margin is simply your unit selling price minus your variable costs per unit.
Your contribution margin measures how much revenue you have left over, after the sale of a product, to cover your fixed costs and generate a profit.
If you sell your product for $25, and it costs you $15 to produce and sell, your contribution margin is $10.
Your contribution margin ratio indicates the profit generated from each sale. It’s your contribution margin per unit divided by your unit selling price.
If your contribution margin is $10, and your selling price is $25, your contribution margin ratio is 0.4 or 40%.
After you’ve calculated your contribution margin, you’re ready to calculate your break-even point. You can calculate your break-even point in units or sales revenue.
If your total fixed costs are $10,000, and your contribution margin is $10, your break-even point would be 1,000. This means that you would have to sell 1,000 products before generating a profit.
In Sales Revenue
If your total fixed costs are $10,000, and your contribution margin ratio is 40%, your break-even point would be $25,000. This means that you will start making a profit after you’ve made $25,000 in sales.