Break-Even Analysis Pres

Break-even analysis
Introduction
Photo by A. Morris. Used with permission
17 April 2012
easilyinteractive.com 2006-10
Break-even analysis
Break-even:
The level of output at which the total costs of making the items equals the total revenue received from selling them Margin of safety: The difference between the current level of output and the break-even level of output
Margin of Safety = Current Output Breakeven Output
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Tutor2u Break-even simulator

Use Tutor2us excellent Break-even Simulator on an interactive whiteboard to demonstrate the relationships between the various variables.
Break-even
1. The graphical method
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Costs and revenue

task
Bobby Stokes makes Glory
Materials cost 2 and overheads are 1 million per month His factory has a capacity of 200,000 Glories
Bobby sells Glory to wholesalers for 10 Construct a data table of his costs and revenue (FC, VC, TC, TR) for ranges of output from 0 to 200,000 units
use increments of 20,000 units with the y-axis scale ranging from 0 to 2,000,000
From the data table, sketch a graph
Identify the break-even point
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Costs and revenue

quick questions
Looking at your graph, how many Glories must Bobby produce if he is to break-even? Define break-even in a single sentence Reading from your graph, estimate the amount of profit/loss Bobby will make if he makes and sells:

60,000 Glories 160,000 Glories
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Break-even Simulator (Tutor2u)

task
Use the simulator to find the total contribution and net profit when:
Selling price = 50 Variable cost per unit = 26 Fixed costs = 350,000 (Expected output = 15,000 units)
By how much should selling price change if the firm wishes to aim for a net profit of 40,000?
What is the margin of safety at that output? What does this mean? Why do you think this might be? How else could they try to achieve this target profit?
Management is reluctant to raise price.

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Break-even analysis
2. Calculation method
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Calculating break-even
Contribution:
Defined as the contribution that selling a single unit makes towards fixed costs and profit
Contribution = Price per unit Variable Cost per unit
Fixed costs Break-even point = contribution
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Example
You
manufacture CDs. You sell them to retailers for 8. The variable cost per CD is 1 and fixed costs are 70,000 What is the break-even output?
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Example
A fast-food restaurant sells meals for 6 each The variable costs of preparing and serving each meal are 2 The monthly fixed costs of the restaurant amount to 3,600
How many meals must be sold each month to break even? If the restaurant sold 1,500 meals in April, what were the margin of safety and profit in that month?
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Break-even analysis
Photo by elle_rigby. Used with permission
Katies Cards
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Breakeven analysis
Katies Cards question
Katie makes greetings cards. She has estimated that her fixed costs for the first six months of operation would be 3,000. The variable cost per card is estimated at 60p, and Katie set a selling price to retailers of 1.80 per card Showing your working, calculate Katies break-even output for her first six months in operation If she sells 3,000 cards, how much profit will she make?
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Photo by elle_rigby. Used with permission
Break-even analysis
Photo by Piddy77. Used with permission
MugUp task
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Break-even analysis
Task MugUp Ltd

MugUp Ltd has sufficient capacity to produce 120,000 drinking mugs per year The variable cost of producing each mug is 20p and fixed costs total 20,000 per year The mugs are sold to wholesalers for 60p each
a. Calculate:
1. 2. 3. 4.
contribution per mug break-even output the margin of safety if current output is 90,000 mugs profits at full capacity
b. Assuming that unit variable costs, fixed costs and capacity remain unchanged, calculate the price that MugUp would have to charge wholesalers to obtain the target profit of 40,000 per year at full capacity output
Alternative method
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Break-even analysis
Photo by Piddy77. Used with permission
Uses and limitations
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Break-even analysis
uses and limitations
Break-even analysis only really works for a business with one product Involves so much simplification as to be worthless
e.g. generalising costs into fixed and variable
In reality (but not in exams!) the language of break-even is more important than the mathematics

Break-even point Contribution Margin of safety

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Cashflow forecasting
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Break-even analysis

Tutor2u Break-even simulator

Costs and revenue

Bobby Stokes makes Glory

From the data table, sketch a graph

Identify the break-even point

Costs and revenue

60,000 Glories 160,000 Glories

Break-even Simulator (Tutor2u)

Management is reluctant to raise price.

Fixed costs Break-even point = contribution

Photo by elle_rigby. Used with permission

Uses and limitations

e.g. generalising costs into fixed and variable

Break-even point Contribution Margin of safety

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