Lesson aims
Break-even analysis
Break-even analysis: A tool that businesses can use to determine how many sales are needed to cover all their costs.
Break-even point: The level of output that generates sufficient revenue to cover total costs without any profit left.
Selling price: The average price paid by the customer for one unit of a product or service.
Variable costs per unit: Costs that vary directly with output. For example, raw materials or components needed to produce one unit of production.
Fixed costs: Costs, such as rent or advertising, that are not directly linked to output and so do not change as output increases or falls.
Margin of safety: The difference between the break-even point and the current level of output. It shows how far output can fall with the business still achieving break-even.
5.3 Break Even Analysis.ppt5.3 Break-Even_Analysis_Lesson.pptxContribution
Contribution per unit: How much a product contributes to covering the fixed costs of a business.
Total contribution: How much the whole product line (all the products/services produced by the business) contributes to covering the fixed costs.
Break-even calculation
Drawing a break-even chart
- Use the formula to calculate the break-even point.
- Draw the x-axis, and label it 'Output'. Ensure this break-even point fits onto the x-axis. Make sure by allowing at least double the BEP.
- Mark the break-even point, and draw a dotted vertical line up from the x-axis.
- Multiply the highest output on the x-axis (at least double the BEP) by the selling price. (This number should appear close to the top of your y-axis, and will help you draw the revenue line.)
- Draw the y-axis, and label it 'Revenue, costs ($)' (using whichever currency is used in the question). Make the point you calculated in Step 4.
- Draw and label the fixed costs line.
- Draw and label the revenue line. It will start at the origin, and end at the point you calculated in Step 4.
- Draw the total cost line. Remember, this will start at the fixed costs line, and cross the revenue line at the break-even point. It should be following through the points that were calculated.
- If the question requires, mark on the current level of output and margin of safety.
Target profit
Profit = (Output Ă— Contribution per unit) - Fixed costs
3.2._Target_Price_calculation.docxChanges in price and cost
Changes in price
Changes in fixed cost
Changes in variable cost
Evaluation of break-even analysis
Task
- Define the term fixed cost. [2]
- Using information from the Table 1:
- Calculate the break-even level of output (show all your working). [2]
- Construct to scale a fully labelled break-even chart. [5]
- Using information from Table 2:
- Calculate the missing figures V, W, X and Y (no working required); [4]
- Calculate the gross profit margin for 2015 and 2016 (no working required). [2]
Table 1
Table 2
