When your business is able to cover all its fixed costs and starts making a profit it’s called hitting the break-even point.
The break-even point symbolizes how much money your business needs to make in order to cover its fixed costs. Once your company hits this point, any additional sales is counted as profit.
Reaching the break-even point is a sign of financial stability, because it means your business is starting to make money.
Why the break-even point is important
If you run a business with inventory or you produce goods, knowing your break-even point is very important. That’s because you probably have some sort of operating costs, and you need to sell a certain amount of goods to make a profit. To know if you’re on the right track, you have to calculate the break-even point.
If you’re a consultant offering consulting services, you probably have low operating costs. You don’t need to sell as much to make a profit, but you should still know what your break-even point is because it helps you figure out how much to charge for your goods and services so that you avoid losing money.
How to calculate it
You can calculate the break-even points in two ways. Either in terms of units sold, or revenue generated.
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 business that sells snow blowers:
| Retail price per snow blower | 2 000 |
| Variable production cost, including production, shipping and packaging | 600 |
| Fixed cost, such as rental space, insurance and, electricity | 43 000 |
If the business sells 100 snow blowers in January, they’ll have a a total revenue of $200 000. The corresponding variable cost will be $60 000.
As a result, the contribution margin—which is the revenue after subtracting variable costs—is $140 000. This amounts to 70%.
The break-even point is the total fixed costs x 100 divided by the contribution margin.
In numbers this looks like:
(43 000 x 100) / 70 = $61 428.57
So in this example, the business needs to have a sales revenue of $61 428.57 to break even.
Therefore, the company needs to generate sales of $61,428.57 to break even. This works out to selling about 30 snow blowers per year.