Disclaimer: I am not a financial advisor or accountant. This article is for informational purposes only. Please use the info at your discretion.
What is a break-even point?
A break-even point is the point at which your business breaks even or covers all expenses in a specific time period.
A break-even point takes into account your fixed costs (which we talked about earlier), your variable costs (which we talked about earlier as well), and your average price per unit. From there you can calculate how many items you have to sell at a given price in order to break-even.
Calculating it is fairly simple and let’s you know how much you have to sell to break-even. A break-even is generally calculated on a monthly basis (so you know how much you have to sell during a period and can adjust accordingly), but can be calculated for any length of time (weekly, annual, etc.).
How do I find my break-even point?
A simple way to find your break-even is by using this formula:
Break-even quantity = Fixed costs/(average sale price per unit - average cost per unit)
You will have to plug in your total fixed costs for the period, your average sale price per unit and average cost per unit to determine the total number of units you must sell in the period to break-even.
But let's make it more tangible by looking at an example: Let's say you have $2000 of fixed costs for the month, your average sale price per unit is $15 and your average cost per unit is $11. If you put the numbers in the formula, you find you’ll need to sell 500 units a month to break-even.
How can I manage it to be (even more) profitable?
Understanding your break-even is a vital starting point in managing your business. Anything you sell above your break-even means profit for your business. If you don’t sell enough units, you incur loss. But managing your break-even goes far beyond that.
By using the same formula above, not only can you determine your current break-even point, you can also use it to determine how to lower your break-even by managing prices and costs. And of course, lowering your break-even can mean more profit.
Let’s go back to the example we talked about earlier: Let’s say after doing your break-even, you find you can increase your price to $20 with an investment of $4 more in variable cost/unit (so total variable cost is $15/unit). Your fixed costs remain the same at $2000. If you put those numbers in the formula, you find you only need to sell 400 units a month to break even.
It’s a potentially profitable puzzle. You simply need to find the perfect (and ever-changing) fit for your business. Using a break-even is essential. You won't have to guess if you’re making a profit because you’ll have already managed it so you know that you are.
What if you want to know how many units you have to sell to make $1500/month in profit? Next week I'll answer this question when we talk further about cost-volume-profit analysis.
For more basics on break-even analysis: