Break-even point (BEP) is the point in which the company makes neither profit nor loss. In order words, it is the safety margin of operation.
There are two different terms that we normally use whenever we talk about the break-even point, they are break-even point in sales and break-even point in units.
Break-even point in sales is the number of sales (usually called in the dollar) that make no loss or profit.
Break-even point in units is the number of units that the company requires to sell in order to break even. Basically, if you can find the break-even in units and could also find it in total sales. See the formula below for detail.
Before we go to the formula and example, let discuss why do we need to know break-even and when do the management of the company uses it.
Well, just make it’s simple, the break-even normally answers the question like how much do we need to sales to make our company safe from lost or how many units do we need to sales instated.
It is very important for the management of the company because they need to know how much sales that make them survive and how much sales require to make a profit. The company might go bankrupt if it stays long in the period that makes no profit or breaks even.
If they don’t know, they can not project the net profit that they require for the years. Management also uses this at the time they prepare budget sales for the company as well as the sales team.
The factors that affect the break-even are Sales Price, Variable Cost, and Fixed Cost. These factors are very important and we will discuss them later.
Break-even Point’s Formula:
Break-even point in Units = Fixed Cost/(Sales Price Per Unit – Variable Cost)
Break-even point in Sales or Dollar = Break Even Point in Units * Sale Price Per Unit
Let us simply that equation, Break-even is the point in which two costs are settled. One is the Fixed Cost and another is Variable Cost.
Sales Price Per Unit less Variable Cost is equal to Contribution Per Unit, this is how variable cost is settled. In the equation, we use Fixed Cost at the main indicator and this how this cost is settled.
Why Is It Importance to Analyst Break-Even Point?
This is one of the most important points whenever we start to think about Break-Even Point, and there are many benefits for your company to do it.
First, it helps you as said about, it helps you to identify the amount of unit and sales in the dollar that you have to get it done. Second, it is about cost management.
By analyzing the BEP you will find a way to control all of the fixed costs that occurred in the company as well as a variable cost.
For example, what are the mains variable costs and what drives them? Once you identify the main cost driver, the next step would how to reduce those costs and the answer probably by improving the quality and training.
Fixed Cost normally the high cost and it is difficult to reduce some fixed cost might be happened to support the insignificant production process. In such a case, you might consider outsourcing it if it is cost-effective.
Break-even point also mostly use when the company thinking about the pricing strategy, and how much contribution it needs from each product.
For example, the market that the company operating in is highly competitive and the maximum amount that it could sales is limit. In such a case, the company using the pricing strategy to consider many sales is break-even.
Example and Calculation of Break-Even Point
ABC Company is the cloths manufacturing company to produce fashion clothes and sales in the market by its own sales team.
The average price for each cloth is $150, and the variable cost for each cloth is $50. The average monthly fixed cost is $50,000.
Calculate the break-even units and sales, and comment on it.
Now let start with the formula and information in the exam.
Break-even point in Units = Fixed Cost/(Sales price per unit – Variable cost)
Break-even point in Sales or Dollar = Break-even point in Units * Sale price per unit
Fixed Cost Per Year = 50,000 * 12 = 600,000
Sale Price = $150
Variable Cost = $50
Contribution Per Unit = $150 -$50 = $100
- Break-even point in Units = 600,000/100 = 60,000 Units
- Break-even point in Sales or Dollar = 60,000* 150 =$9,000,000
Break-Even Point Analysis
Based on the figure above, ABC needs to sell at least $60,000 Units or $9,000,000 in order to break-even or to cover all of the costs.
At this point, ABC does not make any profit. The Break-even point for ABC effect significantly by Unit Price, Variable Cost, Fixed Cost and Demand of product in the Market.
For Example, if the price increase, then ABC does not need the sale as above to break-even.
Written by Sinra