Money Matters

The break even point: analysis and formula

Break-even point = Fixed costs / Contribution margin, i.e. the minimum turnover that must be achieved to not lose money. Find out when your business will be profitable.

In an economy buffeted by inflation, supply chain vulnerabilities, and a competitive talent market, grasping the break even point is not just an accounting exercise—it’s a survival strategy.

Here’s what we’ll cover

Our easy-to-use template will help you understand the cash coming in and going out of your business so you can make smarter decisions.

Break even point – key learnings

• By understanding and applying the break even formula, you can determine your business’s critical sales threshold to generate profit.
• The lower your fixed costs, the fewer units you need to sell to break even.
• Reaching the break even point sooner allows you to reduce reliance on external funding, saving on interest payments and other funding costs.
• Demonstrating a track record of profitability can make your business more attractive to potential investors or lenders for future growth plans.
• Formula: Break even point (units) = fixed costs / (selling price per unit – variable cost per unit)

What is the break even point?

The break even point marks when your company’s revenues equal its costs, signaling the transition from loss to profit.

What is the break even formula?

The break even formula helps you understand how many units you need to sell to cover your costs.

It calculates the point at which your total revenue equals your total costs.

Here’s how you find it:

Break even point (units) = fixed costs / (selling price per unit – variable cost per unit)

Once you sell beyond this point, your business starts to make a profit.

Here is a breakdown of the terms:

• Fixed costs: these expenses do not change with the number of items sold, such as rent, salaries, insurance, and loan payments.
• Selling price per unit: how much you sell each product unit for.
• Variable cost per unit: these costs, like raw materials and labor, vary with the production volume.

By plugging your specific numbers into this formula, you can determine the number of units needed to reach your break even point.

Example calculation

This calculation shows the point at which your revenue equals your costs, which is the break even point.

1. Fixed costs: \$50,000 (e.g., rent, salaries, insurance, loan payments)
2. Selling price per unit: \$100
3. Variable cost per unit: \$60 (e.g., raw materials, labor)

Plug these numbers into the formula:

Break even points (unit) = fixed costs/selling price per unit – variable cost per unit

Break even point (units) = 50,000 / 100-60

= 50,000 / 40

= 1,250 units

What is a break even analysis?

Here are some examples of how a break even analysis can provide essential information about your company’s financial viability.

• Financial projections: a break-even analysis is necessary for financial projections or expanding your product line.
• Investment needs: it can also determine if you need further investment to reach profitability.
• Estimating capital: provides a precise estimate of when your business will break even.

• Profitability projections: established businesses can benefit from break even analysis for new products or changes.
• Cash flow management: helps manage cash flow, especially with fluctuating costs due to inflation.

Staff recruitment: use break-even analysis to model the impact of hiring new staff or opening new sites.

Pricing strategy: determine the best price for your products and calculate markup to ensure profitability.

Our easy-to-use template will help you understand the cash coming in and going out of your business so you can make smarter decisions.

What is the purpose of a break even analysis?

This analysis can provide essential information about the financial viability of your company.

This is particularly important when you’re putting together financial projections or when you’re expanding your product lines.

It can tell you whether you’ll need further investment to keep your business going until you reach the point at which you’re making a profit.

If you’re starting a business, having a clear and accurate estimate of when you’ll find that your business is breaking even will determine how much seed money or startup capital you’ll need.

Lender and investors will expect to see it as it gives them a good indication of when they might see their loans repaid or when they’ll get a return on their investment.

Even if your business has been going for a while an analysis when it will be profitable is still useful.

It can help you to make projections and manage cash flow if you’re launching a new product or making changes to an existing one.

With inflation continuing to bite and many raw materials costs increasing it can be particularly informative.

You might also use it to model the effect on recruiting new staff or opening a new site as it will show how many more sales you’ll need to make to balance outgoings and income on any additional costs.

How to calculate the break even point in units

Calculating your break even point in units helps you determine the minimum sales volume needed to cover all your costs.

Here are the steps:

1. Identify all business costs: separate costs into fixed and variable categories.
2. Determine your selling price: decide on a price that meets profitability goals and is acceptable to customers.
3. Calculate the contribution margin: contribution margin = selling price per unit − variable cost per unit
4. Calculate the break even point in units: break-even point (units) = total fixed costs / contribution margin per unit
5. Review and adjust: regularly review and adjust costs, prices, and sales strategies.

Break even analysis example: How to calculate the break even point in dollars

Let’s use an example of calculating a break-even point in dollars.

Step 1: Identify total fixed costs

• Rent: \$3,000 per month
• Salaries: \$10,000 per month
• Insurance: \$500 per month
• Loan payments: \$1,500 per month

Step 2: Determine the contribution margin

Calculate the contribution margin per unit:

Contribution margin = selling price per unit − variable cost per unit

For example, if the selling price per unit is \$100 and the variable cost per unit is \$60:

Contribution margin = 100 – 60 = 40

Step 3: Calculate the contribution margin ratio

Divide the contribution margin per unit by the selling price per unit to get the contribution margin ratio:

Contribution margin ratio = contribution margin per unit / selling price per unit

Using the example values:

Contribution margin ratio = 40 / 100 = 0.40

Step 4: Calculate the break even point in dollars

Use the following formula to calculate the break even point in dollars:

Break even point (in dollars) = total fixed costs / contribution margin ratio

Using the total fixed costs and contribution margin ratio from the example:

Break even point (in dollars) = 15,0000 / 0.40 = 37,500

This means you need \$37,500 in sales to break even.

Example summary

• Total fixed costs: \$15,000
• Selling price per unit: \$100
• Variable cost per unit: \$60
• Contribution margin per unit: \$40
• Contribution margin ratio: 0.40
• Break even point (in dollars): \$37,500

Benefits of a break even point analysis

• Locate missing expenses
• Make business decisions based on facts rather than emotion
• Help set realistic goals
• Secure funding from investors
• Understand how to set the right price your products

Final thoughts

No one likes to think about money flowing out of their business, but being honest and realistic about it is necessary.

Similarly, it’s essential to be practical when pricing; what can you charge your customers?

What will they be willing to pay?