How to calculate your breakeven point?

Knowing your breakeven point is crucial to any business venture it changes the risks involved with starting a company and can help you make good decisions with a company that is already running. The breakeven point is a crucial piece of information and calculating it as accurately as possible changes the future from a guess to a plan.

First let's define the breakeven point- breakeven point is when you are back to 0 in your business. Most of us know a products profit margin or the amount over the cost of the product that we make for each item that sells. Let's take a hamburger restaurant as our example. We are great shoppers and find our hamburger for $2 a pound so our ¼ pd hamburger costs .50 plus the bun and toppings lets say we are up to $1 per burger. We sell the burger for $2 and that makes our profit margin per unit $1. But we have to pay Sally and Susie to work at the hamburger restaurant and we have to pay for lights and rent on the building and energy to heat the burgers, these are all our overhead costs. Let's say all those things come to $1000 a month more. That means for our business to get back to 0. We aren't losing any money or making any money we have to sell 1000 burgers a month. That is our breakeven point.

Many new business owners wrongfully assume because their profit margin is $1 per burger that every burger they sell is making them $1. But really before the breakeven point you are losing money every burger you sell because it is costing you more than you are making to make the burger and have Sally give it to the customers for you. You don't start making money until you have sold your 1001st burger. All the other burgers just went toward your overhead costs.

Here is the breakeven equation taken from a managerial accounting format income statement. If your accountant doesn't create your income statement in this format then have him change it to managerial accounting format for you. It will help you calculate your breakeven point and run your business much smoother.

1. Revenue- This is all the sales income and other income generated by the business
2. Cost of product or services (Cost of Goods Sold)- This includes cost of wholesale product for you to resell.
3. General & Administrative Costs (Overhead)- This includes employee payrolls, taxes, rent or mortgage costs, utilities, advertising, coupons, and all other non product related costs
4. 1 minus 2 minus 3 = PROFIT.

The breakeven point is also important to know if you are considering changes to your company, expanding or trying a new product line. All these things can be planned for using the breakeven point to help determine if the change is a cost effective plan. Of course this is a projection and may not reflect actual outcomes but is a great way to make a less risky and more educated decisions. It is a good way to plan with a group and see what numbers seem to be realistic to the majority of team members to help with decision making.
Finding the breakeven point when deciding whether to add a new product line can help you decide whether it would be cost effective to bring the new product on board or not.
Maybe you want to move the business to another location. This whether the rent is going up or down would change your breakeven number. Maybe the location is better so you could have a higher breakeven point because you will sell more burgers or maybe it won't but having the numbers to back your decision will help you.

The breakeven point is a crucial piece of the business puzzle and you will be better prepared for the future when you have it.

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Categories: Accounting,

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