Learn about break-even point for effective business profitability

1. What is the break-even point and its role?

 

1.1 What is the break-even point?

 

The break-even point is the revenue level at which a business neither makes a profit nor a loss, meaning that total revenue exactly equals total costs. In other words, this is the threshold a business must surpass to start making a profit.

 

When analyzing the break-even point, there are typically two types of break-even points that come to mind:

 

1. Economic break-even point (or break-even before interest): This is the level at which sales revenue equals total production and operating costs. At this point, the business's profit before interest and taxes is zero, indicating the ability to cover production costs from revenue.
2. Financial break-even point (or break-even after interest): This is the level of revenue that is sufficient to cover all costs, including interest, for the period. At this point, the company's pre-tax profit is zero, indicating that revenue is sufficient to cover operating costs and interest.

1.2 The role of the break-even point

 

The break-even point is not just a number in a financial report but also has many important roles such as:

 

• Evaluating business performance: The break-even point is an important tool for businesses to determine the efficiency of resource use. A low break-even point shows that the business is operating efficiently and has the ability to increase profits quickly. Conversely, if the break-even point is high, the business needs to find ways to optimize costs and improve operating efficiency.
• Business Planning: In business planning, the break-even point is an essential element that helps a business determine the output needed to achieve the desired profit. It assists the business in setting the right selling price, investment direction and other strategic decisions.

• Risk Assessment: The break-even point provides an approach to assessing business risk by determining the minimum revenue required to avoid losses. It helps businesses analyze the risk level of investment projects and select projects with suitable potential profits.

2. Formula for calculating break-even point in business

 

The basic formula for calculating the break-even point is:

 

Break-Even Point (BEP) = Total Fixed Costs/ (Unit Selling Price per Product – Variable Cost per Product)

 

Or determined by the formula: BEP = FC / (S – VC)

 

In addition, the break-even point also helps determine the revenue needed to achieve a balance between costs and profits. Break-even revenue is calculated by multiplying the output at the break-even point by the product selling price. The specific formula for calculating break-even revenue is:

 

Break-even revenue = Break-even point x Unit selling price of each product

 

Break-even Revenue = Fixed Costs / (1 - (Variable Costs / Revenue))

3. Notes when analyzing the break-even point

 

Here are some important factors that new stores need to pay attention to regarding the break-even point (BEP):

 

• Identify fixed and variable costs accurately: Fixed costs and variable costs play a key role in calculating the store's break-even point. Therefore, store owners need to carefully classify and calculate these two types of costs to ensure the most accurate BEP results.
• Accuracy of BEP in Multi-Product Business: Calculating BEP for multiple products usually depends on the actual selling price and revenue of each item. However, these factors can vary based on the market and product volume, so BEP is not always absolutely accurate at all times.
• Avoid assuming production volume equals sales volume: The BEP is just a reference figure to help stores determine expected output and selling price, and adjust flexibly later. In reality, stores need to maintain a certain amount of inventory to operate stably and avoid shortages.
• BEP fluctuates over time: BEP is a flexible index, which can change when the market fluctuates due to inflation or changes in supply and demand.

 

The above points will help new stores operate more effectively when they understand the meaning and use of the break-even point.