Did your business cover all fixed costs and started to make profit? This is called the «break-even point». Reaching this point is a sign of financial stability, because it means the business is not losing money anymore.
The break-even point is the sum of sales your company needs to achieve to cover the fixed costs completely. Once your company hits this point, any additional sales start to supply to its profits. You need to know where the break-even point lies, because it helps you set the minimum sales target needed to avoid losing money.
Calculating the break-even point
You can calculate the break-even points in two ways. Either in terms of units sold, or revenue generated. This gives you a clear idea of how much you need to sell to cover your costs. To find this point, you first need to figure out your contribution margin, which is what’s left of your revenue after variable costs are subtracted.
Let’s look at a company that sells snow blowers:
- Retail price per snow blower: ₹2000
- Variable production costs per snow blower: ₹600 (including shipping and packaging)
- Fixed costs: ₹55,000 (inclusive of rent, insurance, and electricity)
- Snow blowers sold in January: 100 units
The company achieved a total revenue of ₹200,000 by selling 100 snow blowers, each priced at ₹2000. The corresponding total variable costs (including production, shipping, and packaging) for the 100 units, amounted to ₹60,000. As a result, the contribution margin, representing the remaining revenue after subtracting variable costs, equalled ₹140,000.
Expressed as a percentage, the contribution margin is 70%.
Break-even point = (Total fixed costs * 100) / Contribution margin in percentage ₹33,000 * 100 / 70 = ₹78,571.42
Therefore, the company needs to generate sales of ₹78,571.42 to break even.
Relevance of the break-even point
Calculating the break-even point gives value to companies with inventory or involved in production. This is especially true when operating costs are substantial, necessitating a minimum sales volume to cover expenses. For businesses offering consulting services with lower operating costs, determining the break-even point is comparatively simpler, as they need to sell less to achieve profitability.