break even analysis occurs in which area of the business plan quizlet

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Question: Break even analysis occurs in which area of the business plan? Select one: O a. Marketing plan O b. HR plan O c. Risks and assumptions O d. Financial plan

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Understand that break-even analysis is a financial tool utilized to ascertain the point where a business's total revenues match its total costs, neither yielding profit nor loss.

The correct option is:

d. Financial plan

Explanation:

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Break-Even Analysis: What It Is and How to Calculate

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A break-even analysis helps business owners find the point at which their total costs and total revenue are equal, also known as the break-even point in accounting . This lets them know how much product they need to sell to cover the cost of doing business.

At the break-even point, you’ve made no profit, but you also haven’t incurred any losses. This metric is important for new businesses to determine if their ideas are viable, as well as for seasoned businesses to identify operational weaknesses.

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What is the break-even analysis formula?

The break-even analysis formula requires three main pieces of information:

Fixed costs per month: Fixed costs are what your business has to pay no matter how many units you sell. This could include rent, business insurance , business loan payments, accounting and legal services and utilities.

Sales price per unit: This is the amount of money you will charge the customer for every single unit of product or service you sell. Make sure to include any discounts or special offers you give customers. If you sell multiple products or services, figure out the average selling price for everything combined.

Variable costs per unit: These are the costs you incur for each unit you sell. They may include labor, the price of raw materials or sales commissions, and they are subject to change as sales fluctuate. To calculate, multiply the number of units produced by the costs of producing just one unit.

From there, the break-even point can be calculated in units.

Break-even point in units = fixed costs / (sales price per unit – variable costs per unit)

This gives you the number of units you need to sell to cover your costs per month. Anything you sell above this number is profit. Anything below this number means your business is losing money.

Once you’re above the break-even point, every additional unit you sell increases profit by the amount of the unit contribution margin. This is the amount each unit contributes to paying off fixed costs and increasing profits, and it’s the denominator of the break-even analysis formula. To find it, subtract variable costs per unit from sales price per unit.

» MORE: Best apps for small businesses

Break-even analysis example

Let's say you're thinking about starting a furniture manufacturing business. The first unit you're going to sell is a table. How many tables would you need to sell in order to break even?

If it costs $50 to make a table and you have fixed costs of $1,000, the number of tables you must sell to break even varies depending on price. Here are two scenarios:

If you sell a table at $100: $1,000 / ($100 — $50) = 20 tables

If you sell a table at $200: $1,000 / ($200 — $50) = 6.7 tables

This is a great example of how selling a product for a higher price allows you to reach the break-even point significantly faster. However, you need to think about whether your customers would pay $200 for a table, given what your competitors are charging.

» MORE: NerdWallet’s picks for the best small-business accounting software

When to use break-even analysis

Break-even analysis formulas can help you compare different pricing strategies.

For example, if you raise the price of a product, you’d have to sell fewer items, but it might be harder to attract buyers. You can lower the price, but would then need to sell more of a product to break even. It can also hint at whether it’s worth using less expensive materials to keep the cost down, or taking out a longer-term business loan to decrease monthly fixed costs.

Here are a few specific situations where a break-even analysis is especially useful:

Starting a new business: When starting a business , break-even analysis can help you figure out the viability of your product or service. If you do this analysis along with writing a business plan, you can spot weak points in your company's financial strategy and develop a plan to address them.

Launching a new product or service: Whenever you launch a new product or service, you'll need to determine its sale price and how much it costs to produce it. Using a break-even analysis, you can see how both of these factors affect your profitability. Eventually, you can choose a price that's fair to customers and realistic for your company.

Adding a new sales channel: If your business model changes to incorporate a new sales channel, that's a good opportunity to do a break-even analysis. For example, if you have a brick-and-mortar store but want to start an e-commerce business, your costs and pricing might change. You should make sure you at least break even so that you don't put too much financial strain on your business.

This article originally appeared on Fundera, a subsidiary of NerdWallet.

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10.6 Breakeven Analysis

Learning objective.

• Learn how to use breakeven analysis to estimate the number of sales units at which net income is zero.

Forecasting sales of shoes has started you thinking. Selling twelve thousand pair of shoes the first year you run the business sounds great, but you still need to find an answer to the all-important question: are there enough customers willing to buy my jogging shoes at a price that will allow me to make a profit? Is there some way to figure out the level of sales I would need to avoid losing money—to “break even”? Fortunately, an accountant friend of yours informs you that there is. Not surprisingly, it’s called breakeven analysis , and here’s how it works: to break even (have no profit or loss), total sales revenue must exactly equal all your expenses (both variable and fixed) . To determine the level of sales at which this will occur, you need to do the following:

• Fixed costs = $210,000 salaries + $60,000 rent + $10,000 advertising + $8,000 insurance + 12,000 other fixed costs = $300,000
• Variable cost per unit = $40 (cost of each pair of shoes) + $5 sales commission = $45
• Contribution margin per unit = $80 selling price minus $45 variable cost per unit = $35
• Breakeven in units = $300,000 fixed costs ÷ $35 contribution margin per unit = 8,571 units

Your calculation means that if you sell 8,571 pairs of shoes, you will end up with zero profit (or loss) and will exactly break even.

If your sales estimate is realistic (a big “if”), then you should be optimistic about starting the business. All your fixed costs will be covered once you sell 8,571 pairs of shoes. Any sales above that level will be pure profit. So, if you sell your expected level of twelve thousand pairs of shoes, you’ll make a profit of $120,015 for the first year. Here’s how we calculated that profit:

• 12,000 expected sales level – 8,571 breakeven sales level = 3,429 units × $35 contribution margin per unit = $120,015 first-year profit

As you can see, breakeven analysis is pretty handy. It allows you to determine the level of sales that you must reach to avoid losing money and the profit you’ll make if you reach a higher sales goal. Such information will help you plan for your business.

Key Takeaways

• Breakeven analysis is a method of determining the level of sales at which the company will break even (have no profit or loss).
• The following information is used in calculating the breakeven point: fixed costs, variable costs, and contribution margin per unit.
• Fixed costs are costs that don’t change when the amount of goods sold changes. For example, rent is a fixed cost.
• Variable costs are costs that vary, in total, as the quantity of goods sold changes but stay constant on a per-unit basis. For example, sales commissions paid based on unit sales are a variable cost.
• Contribution margin per unit is the excess revenue per unit over the variable cost per unit.
• The breakeven point in units is calculated with this formula: fixed costs divided by contribution margin per unit (selling price per unit less variable cost per unit).

(AACSB) Analysis

For the past ten years, you’ve worked at a PETCO Salon as a dog groomer. You’re thinking of starting your own dog grooming business. You found a place you could rent that’s right next to a popular shopping center, and two of your friends (who are also dog groomers) have agreed to work for you. The problem is that you need to borrow money to start the business and your banker has asked for a breakeven analysis. You have prepared the following cost estimates for your first year of operations:

You went online and researched grooming prices in your area. Based on your review, you have decided to charge $32 for each grooming.

• What’s the breakeven point in units—how many dogs will you need to groom in the first year to break even?
• If you and your two employees groomed dogs five days a week, seven hours a day, fifty weeks a year, how many dogs would each of you need to groom each day? Is this realistic given that it takes one hour to groom a dog?
• If you raised your grooming fee to $38, how many dogs would you need to groom to break even?
• At this new price, how many dogs will each of you have to groom each day (assuming, again, that the three of you groom dogs fifty weeks a year, five days a week, seven hours a day)?
• Would you start this business?
• What price would you charge to groom a dog?
• How could you lower the breakeven point and make the business more profitable?

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