How to Figure Your Break-Even Point

But before we start figuring our break-even point formula, let’s go back over some accounting terminology:

• Variable Costs: These are expenses that are associated with producing your product. They are directly proportioned to the production of your product. For example, if you owned a bakery, your variable cost would be your flour, sugar, etc.
• Fixed Costs: These are expenses that would be the same even if you did not sell any of your product such as rent, insurance, etc.
• Unit Selling Price: The price you will be selling a single product or service for.
• Contribution Margin: The amount generated after the variable expenses have been covered that will contribute toward the fixed expenses

Keeping those accounting definitions in mind, let’s discuss how to conduct a break-even analysis of your small business by using the break-even point formula:

Breakeven Point = Fixed Costs/Unit Selling Price – Variable Costs

Using this formula, you can determine how much of your product you will need to sell to break even. Once you have reached that point you have recouped all your cost that you have generated producing your product both fixed and variable.

Another important term used in a break-even analysis, is contribution margin (see definition above). The formulas for figuring the unit contribution margin is:

Unit Contribution Margin = Unit Selling Price – Unit Variable Cost

Using the formulas above, let’s figure the breakeven point for a fictional bakery that sells cakes. The amounts and assumptions used in this example are also fictional.

We have figured that are variable cost for each cake we sell is $10. If we sell our cakes for $25 the contribution margin per cake would be:

Contribution Margin per cake = $25 minus $10

Contribution Margin per cake = $15

So the contribution margin per cake tells us that after the variable expenses are covered...$15 per cake will go towards paying the fixed expenses. Assuming we have $300 of fixed expenses per week, the break-even point in cakes per week would be:

Breakeven point in cakes per week = Fixed expenses per week divided by Contribution Margin per cake

Breakeven point in cakes per week = $300/$15 per cake

Breakeven point in cakes per week = 20 cakes per week

From this we can see we would need to sell at least 20 cakes a week to break even. To double check this we would use the following schedule:

Projected Net Income for a Week

Sales (20 cakes sold at $25 per cake) = $500 Minus variable expenses (20 cakes at $10 per cake) = $200 Minus fixed expenses =$300 Equals $0 Net Income

There are several good on-line break-even calculators to help you with your break-even analysis:

• Breakeven Analysis at dinkytown.net

• Break Even Analysis Calculator at calculatorplus.com.

Want a more detailed explanation of the break-even point including standard costing and activity based costing?

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