You may have heard about the break-even point but what is it? Breaking even is crucial for any business. It shows growth and can determine whether you are succeeding or failing. It can also help you determine your costs going forward such as rent, materials and forecast when your business will reach profitability.
This short guide should help you understand the break-even point, why it’s so important and how to find it!
What is the break-even point?
A break-even point occurs when a business revenue equalises with its costs. Once you work out that figure, you can take a look at your costs and ask yourself some important questions. Your prices or costs might be too high and they may need addressing.
It also helps you see your financial position more clearly and determines at what stage your business becomes sustainable.
How to calculate it
Two formulas are usually used to determine a business’s break-even point. One is based on the number of units of products sold, the other is based on sales.
To calculate your break-even point based on units use the formula:
Fixed costs ÷ revenue by unit – variable costs per unit
To calculate your break-even point based on sales, use the formula:
Sales ÷ Contribution margin
Your contribution margin is calculated by subtracting variable costs from the price of a product.
Once you have your figures in place, you need to do an analysis of your break-even point. After crunching the numbers, you need to ask yourself whether your current plan is realistic or if you need to raise prices, cut costs or both.
You should also consider whether your products will be successful in the market. Although the break-even analysis determines the number of products you need to sell, there’s no guarantee you’ll hit that number.
You should ideally conduct this analysis before you start a business so you have a good idea of the risk involved.
But if you’re an existing business, conduct this analysis before launching a new product or service to determine whether or not the potential profit is worth the startup cost.
Now that you have a break-even analysis, it’s time to start plugging in metrics to test your current business or startup idea.
If you’re already running your own business, you can always optimise your pricing strategies or find ways to increase your profit margins.
Using a break-even analysis is a great way to reach profitability and ensure you’re never leaving money on the table.
If you want more advice about determining your break-even point, contact us today.