by Michael Iverson
In a recent article, I discussed the importance of knowing the fixed and variable costs of your business, as well as the break-even point. I’d like to revisit the topic using an illustration that I think you will find helpful. As the saying goes, “a picture’s worth a thousand words.”
Let’s review the particulars of the business mentioned in the previous article. For the year 2012, Acme Company had fixed costs of $2.9 million. The sales price of a unit of product was $112 and the variable costs were $44.70 per unit.
This Sales Table presents sales in 6,000-unit increments. The top line of the table shows no sales and fixed costs of $2.9 million, resulting in a loss of $2.9 million. Toward the middle of the table is 42,000 units sold, with a small loss of $96,000. The break-even point is $4.8 million of sales revenue, or 43,430 units at $112 sales price.
Actual sales for the year were 91,800 units with revenue of $10.2 million. As the table reveals, 90,000 units sold produces a profit of $3.1 million. However, Acme Company did even better.
Now, let’s look at the accompanying Break Even Analysis chart.
Dollar amounts on the vertical axis correspond to unit sales levels on the horizontal axis. The green line represents Fixed Costs of $2.9 million, which do not change with increases in unit sales. The red line represents Sales Revenues, which increase as unit sales increase—to the right along the horizontal axis. The blue line represents Total Costs.
The intersection of the red and blue lines is the break-even point. The area between the red and blue lines to the left of break-even represents losses; the area between the red and blue lines to the right of break-even represents profits. Acme Company generated sales in 2012 that put it well into the profit zone.
Between the table and the chart, you get a good sense of the dynamics between fixed costs, variable costs, and break-even. Understanding your monthly and annual break-even point is an important planning tool. It provides your team with a reference point of knowing when you are operating at a profit or a loss.
If you would like help in understanding your business’s break-even point, contact us. We’re here to help!