Break-Even Point

Break-Even Point is the point at which income matches expenditures—simply. Typically, initial expenditures are high. It takes time for the income to reach the same level. The Break-Even Point can apply to a product, an investment, or the entire company's operations. To reach to Break-Even Point is dream of every company or organization, especially the start-ups.

In other words, the Break-Even Point is defined as the point where sales or revenues equal expenses. There is no profit made or loss incurred at the Break-Even Point. This figure is important for anyone that manages a business since the Break-Even Point is the lower limit of profit when setting prices and determining margins. Obviously the Break-Even Point becomes very important when calculating a strategy for net profit.

When looking at break-evens it is also helpful to look at fixed and variable costs. Fixed overhead is steady and can be factored in quite accurately. Variable costs are not as simple to calculate but in many industries variable costs follow certain percentages or ratios so they are easier to project.

In Break-Even Point, three terms must be defined first and then you need to calculate them:

• The first term is Fixed Costs. These are the costs that do not change whether sales go up or not. Some examples are rent, basic utilities, salaries/labor, memberships, car payments, equipment and lease payments, etc.

• The second term is Variable Costs which are the costs that rise and fall depending on your sales. Some examples are the cost of the product sold, transportation, packaging, manufacturing costs, marketing, labor, etc.

• The third term is Variable Cost Percent per Unit of Sales. Add up all the Variable Costs involved for each sale. Divide the variable cost per sale by the average sales price. The result is the Variable Cost Percent per Unit. Example: If it costs $3 per unit and you sell the unit for $10, your Variable Cost Percent per Unit is 30%.

Let’s see how to calculate Break-Even Point:

Break-Even Point = F / (P-V), where Variable Cost (V) -- direct expenses of producing each product, Fixed Cost (F) -- estimated expenses over the production run and Income (P) -- sum of the selling price and waste recovery.

The profitability (P / V) and break-even analysis can be used to help planners make decisions. Try out your ideas to see if they are feasible!

The Break-Even Point method can be applied to a product, an investment, or the entire company's operations and is also used in the options world. In options, the Break-Even Point is the market price that a stock must reach for option buyers to avoid a loss if they exercise. For a call, it is the strike price plus the premium paid. For a put, it is the strike price minus the premium paid.

The Break-Even Point analysis must not be mistaken for the payback period, the time it takes to recover an investment. A Break-Even Point analysis is a technique used to work out exactly how many items or units you need to sell in order to cover your total expenditure. Sell more products and you start to make profits: sell fewer and you begin to lose money.