The Break-even Analysis is a simple calculation that lets you determine how much you need to sell, monthly or annually, to cover your costs of doing business – your break-even point. Below this sales level, you’re taking a loss. Above it, you have a profit.
Example
Say you’re selling boxes of candy bars at $1 for each bar, and it costs you 30 cents to buy each candy bar. So, for each candy bar you sell, you have 70 cents left over – that’s your gross margin. But you also have fixed costs, which remain the same regardless of sales volume – in this case, $10 per month to store the candy bars.
The Break-even Analysis shows that you’d have to sell 14.3 candy bars per month to cover the $10 storage fee. Simple, right? Except for selling 1/3 of a candy bar… we’ll call that a marketing challenge. Or every three months you could sell one leap-bar.
Benefits
The Break-even Analysis gives you a quick reality check on your business numbers. If you’ve done your research and have some good guesses about how much you can sell each month, your break-even will show whether that’s a profitable level. You can also use it to tinker with scenarios: what happens if your direct costs are a little bit lower, if you can cut a deal with a supplier? What’s the worst-case scenario, when your operating expenses come in over budget?
Since most start-ups will generate a loss for the first few months, until word-of-mouth or other marketing efforts start generating higher sales, the break-even shows you what you’re shooting for. How many months will it take to start turning things around and become profitable?
The point here isn’t so much about showing this number to investors, although that’s one use of the Break-even Analysis. For most entrepreneurs, this calculation is useful in thinking through your budgets and sales plans, helping you to focus on the things that really make a difference to the bottom line.
Dangers
The Break-even Analysis deals only with profits, not cash. If you have to buy those candy bars before you sell them, you could find yourself short on cash and holding lots of inventory (of course, in this example, you can probably pay your sales boys in candy bars and eat the profits).
Remember that this is just one, simplified calculation. To get a full picture of your business financials, you need to develop projected statements for profit and loss, cash flow, and balance sheet. In Business Plan Pro, all of these are linked together and financially sound.
How to use the Bplans Break-even Calculator
The calculator itself is pretty easy to use. Simply double-click in the entry areas on the left and type in a number for each field requested.
Average Per-Unit Revenue means how much you charge for what you’re selling, per unit. A unit could be a single candy bar, or a box of candy bars, a haircut, or an hour of consulting time – that’s up to you.
Average Per-Unit Cost means how much it costs you to make, buy, ship, and deliver that unit of goods or services. It’s a direct cost, meaning that if you don’t sell that unit, you don’t pay for that cost. In our example, the 30 cents you pay to buy each candy bar is the direct cost, but if we were making them ourselves it could be cocoa butter and powder, sugar, wrappers, and paying the laborers a per-bar rate for making them. If you’re a service business, direct costs may not be as relevant, unless you’re paying your employees commissions.
Estimated Monthly Fixed Cost simply means how much you have to pay out each month even if you don’t sell a single thing. In our example, this is the $10 storage fee. For a real business, it probably includes payroll, utilities, rent, pre-arranged advertising, and other recurring costs.
As you change the numbers on the left, the chart on the right of the calculator will update to show how many units and what actual revenue level you need to meet to break even. The point on the chart where Profits = $0 is your break-even point.
Sara Prentice-Manela is a technical writer with experience creating systems for effectively conveying complex ideas, from face-to-face teaching to help systems, infographics, blogs, and videos.
