Break-even Flashcards
(23 cards)
What’s the break-even point (or break-even output)
The level of sales a business needs, to cover its total costs
- At break even point, total fixed costs + total variable costs = total revenue
What does it mean when sales are below break-even point
Costs are more than revenue, the business makes a loss
What does it mean when sales are above the break-even point
Revenue exceeds costs, the business makes a profit
Why should businesses do a break-even analysis
- To find the break-even point
- Tells them how much they will need to sell to break even
- Loaning money to the business, may need a break-even analysis as part of business plan to help them decide whether to lend money or not
- Established businesses preparing to launch new products use break-even analysis to work out how much profit they’re likely to make
What’s contribution per unit
Formula for it
The difference between the selling price of a product and the variable costs per unit (cost it takes to produce)
Contribution per unit= selling price - variable cost per unit
What is total contribution used for
Is used to pay fixed costs
- The amount left over is profit
What’s break-even point in terms of total contribution
Total contribution = fixed costs
If you know total fixed costs and contribution per unit, how do you calculate break-even point
Break-even point= Total fixed costs/ Contribution per unit
What do break even charts show
They show costs and revenue plotted against output.
Why do businesses use break even charts
To see how costs and revenue vary with different levels of output
What’s labelled on the x-axis and what’s labelled on the y-axis
X-axis = Output
Y-axis = Revenue and costs
What do the three lines drawn on the chart represent
Fixed costs
Total costs
Revenue
Where’s break-even point shown on the graph
How’s it shown
Where the revenue line crosses total costs line
It’s shown through the output
E.g. break even point= 150 units
You can use break-even chart to identify what
Profit or loss that would be made at a specified level of output
How can you find the profit or loss on a break-even chart
- You find value for total costs and for revenue at your chosen level of output
- Then subtract the total costs from the revenue
- If the answer is negative then it’s a loss, if its positive then its a profit
What can you change to affect the break even point
- Change the variable costs
- Or change the price of the product
What happens to the revenue line if price increases
The revenue line gets steeper, so the break even point is lowered - if you charge more, you don’t need to sell as many to break even
What’s the margin of safety
The amount between actual output and break-even
Margin of safety= actual output - break even output
What does margin of safety show
Shows how much the output can change before they start making a loss, or a profit
How does knowing margin of safety help a business
- Helps them make important decisions
- If margin of safety is low, they can take action to increase it by either lowering costs or increasing revenue
- This would lower his break-even output, so he’d have a greater margin of safety
Why’s a big margin of safety useful
It means less risk
Advantages for Break even analysis
- Easy to do
- Its quick- managers can see break-even output and margin of safety immediately so can take quick action
- Business can use break-even analysis to persuade sources of finance for money
- Break- even analysis helps decide whether to launch a product or notice
Disadvantages for break even analysis
- Break-even analysis assumes variable costs always rise steadily. Not the case, E.g. can buy in bulk
- Break-even analysis is simple for one product, however majority of businesses sell multiple so can get complicated
- If data is inaccurate, results will be wrong
- Break even analysis assumes businesses sell all products with no wastage. E.g. a restaurant chucks food away due to fewer customers than expected
