What is break-even point

The break-even point is the threshold at which a company covers its fixed costs and begins to turn a profit. This critical juncture is indicative of financial stability, as it signifies that a business is neither gaining nor losing money.

The break-even point is the level of sales a company must achieve to offset its fixed costs, allowing it to break even and transition into profitability. Beyond this point, every sale contributes to the company’s profit margin. Understanding the break-even point is crucial for assessing the minimum sales target required to avoid financial losses.

Calculating the break-even point

The break-even point can be determined in either units or monetary terms, providing insights into the necessary sales volume for a company to cover its costs. To calculate it, one must ascertain the contribution margin, which is the remaining revenue after deducting variable costs.

For example, consider a company selling snow blowers:

  • Retail price per snow blower: $2000
  • Variable production costs per snow blower: $600 (including shipping and packaging)
  • Fixed costs: $33,000 (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 = $47,142.85

Therefore, the company needs to generate sales equivalent to $47,142.85 to break even.

Relevance of the break-even point

Calculating the break-even point is particularly valuable for 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.