Break Even Aims for today To understand what
Break Even
Aims for today • To understand what break even is and how it can be used to assist businesses in their planning
Starter task: Formula recap
Match the formulas 1. Contribution A. Selling price x Quantity 2. Break Even in units B. Actual production level – break even output 3. Margin of safety C. Total revenue – Total costs 4. Total Revenue D. Fixed costs/contribution 5. Profit or loss? E. Selling Price – Variable costs
What does break even mean? • Break even is where a firms TOTAL REVENUE is the same as its TOTAL COSTS (In other words, money coming in = money going out). • At the break even point, a firm is neither making a PROFIT nor A LOSS Q: Why would it be useful for a toy manufacturing business to calculate its break even point? To understand the role & purpose of break even analysis
Break even • Break even analysis is useful as a business can work out what volume of sales it needs to achieve to cover its costs. • The key to break even is to work out the contribution made from the sale of each unit. • The amount of money from each unit sold contributes to pay for the fixed and indirect costs of the business.
Break even formula Contribution To understand the role & purpose of break even analysis
Contribution formula Contribution = selling price less variable costs per unit (SP - VC) • Cans of coke = £ 1 - 0. 25 = 0. 75 contribution • Fixed costs are £ 6, 000 • BE = FC / Contribution • 6, 000 / 0. 75 = 8000 Cans need to be sold to break even
A CD factory has the following costs: • Fixed cost: £ 10, 000 • Variable cost: £ 2 • Selling price: £ 7 Q: Calculate the break even point in units and the break point in revenue. ANSWER: In units £ 10, 000 / (£ 7 -2) = 2000 units In revenue: £ 2, 000 x £ 7 = £ 14, 00
Break even point in units = Fixed costs / contribution £ 10, 000 / (£ 7 -2) = 2000 units
Break even point in revenue Quantity at break even x Selling price £ 2, 000 x £ 7 = £ 14, 00
Calculating the break even point Step 1. Identify fixed & variable costs – add them together to get the TOTAL costs Step 2. Calculate the TOTAL REVENUE To understand the role & purpose of break even analysis
Task 1: Calculating break even To understand the role & purpose of break even analysis
OUTPUT FC VC TC TR (SP=£ 4) Profit 0 2000 0 -2000 400 2400 800 -1600 400 2000 800 2800 1600 -1200 600 2000 1200 3200 2400 -800 2000 1600 3200 -400 1000 2000 4000 0 1200 2000 2400 4800 400 1400 2000 2800 4800 5600 800 1600 2000 3200 5200 6400 1200 1800 2000 3600 5600 7200 1600 2000 4000 6000 8000 2000 To understand the role & purpose of break even analysis
Task 2: Draw the break even chart using your data 1. 2. 3. 4. 5. 6. 7. 8. 9. Label the vertical axis “sales and costs in pounds”. Label the horizontal axis “sales/production (units)”. Draw on the BE point Draw a horizontal line for total fixed costs. Starting at the Total costs point, draw the total cost line going through the break even point. Starting at zero, draw the total revenue line through the break even. Where the sales revenue crosses the total costs line is the break even point. Read off the units of sales to give the break even level of sales. The gap between the total costs line and sales revenue line after the break even point represents the level of profit. To understand the role & purpose of break even analysis
The break even chart To understand the role & purpose of break even analysis
Margin of safety formula • The difference between the planned number of units or actual sales and the number of units of sales at break even point. Cans of coke: They can make: • 10, 000 cans potentially – 8, 000 actual units at break even • = 2, 000 Margin of safety
Task 3: Draw the margin of safety To understand the role & purpose of break even analysis
Extension task: Break even worksheet Complete worksheets: #3 Break Even Analysis #4 Break even charts To understand the role & purpose of break even analysis
Why must businesses understand its break even point? • …because the contribution from every unit sold above the break-even point adds to profit. • The break-even point provides a focus for the business; • It works out whether the forecast sales will be enough to produce a profit and; • Whether or not further investment in the product is worthwhile.
Limitations of break-even charts? • Assumes all stock is sold • Does not take into account possible changes in costs over the time period • Does not allow for changes in the selling price. • Analysis is only as good as the quality of information. • Does not allow for changes in market conditions in the time period – e. g. entry of new competitor.
Task 4 Hot Dogs • Helen & Joe operate a hot dog stand in the town centre. The stand costs £ 200 per week to hire. Each hot dog needs one bread roll at 20 p, one sausage at 25 p and sauces at 5 p. • The selling price of each hot dog is £ 1
Complete the table At what quantity do total costs = total revenue? (Break even) What profit is made when they sell 600 hot dogs? QUANTITY 100 150 200 250 300 350 400 450 500 550 600 650 FIXED COSTS VARIABLE COSTS TOTAL REVENUE PROFIT OR LOSS?
Complete the table At what quantity do total costs = total revenue? (Break even) What profit is made when they sell 600 hot dogs? QUANTITY 100 150 200 250 300 350 400 450 500 550 600 650 FIXED COSTS VARIABLE COSTS TOTAL REVENUE PROFIT OR LOSS?
Complete the table At what quantity do total costs = total revenue? (Break even) What profit is made when they sell 600 hot dogs? QUANTITY FIXED COSTS VARIABLE COSTS TOTAL REVENUE PROFIT OR LOSS? 100 200 50 250 100 -150 200 75 275 150 -125 200 100 300 200 -100 250 200 125 325 250 -75 300 200 150 300 -50 350 200 175 350 -25 400 200 400 0 450 200 225 450 25 500 250 450 50 550 200 275 475 550 75 600 200 300 500 600 100 650 200 325 525 650 125
Task 5 1. Draw a Break Even chart for the Hot Dog business - Ensure your chart is FULLY and CLEARLY labelled 2. Draw on the margin of safety (1) 3. Explain how the Break even analysis will help Helen and Joe (4) 4. Discuss what strategies Helen and Joe could use to enable them to reach their break even point quicker (6) 5. Evaluate which of these strategies would be best for the business (6)
Plenary 1: Break even drag & drop • http: //www. businessstudiesonline. co. uk/Applied. Gcse. Business/Activities/Unit 3/Break. Even/B reak. Even. Terms. Drag. Drop/frame. htm To understand the role & purpose of break even analysis
Break even drag & drop solution To understand the role & purpose of break even analysis
Plenary 2: Break even piggy bank http: //www. quia. com/cz/5773. html? AP_rand=331777296 To understand the role & purpose of break even analysis
Plenary 3: Formula Recap
Contribution Selling Price – Variable costs To understand the role & purpose of break even analysis
Break Even in units Fixed costs/contribution To understand the role & purpose of break even analysis
Break Even Revenue Break Even Quantity x Selling price To understand the role & purpose of break even analysis
Margin of safety Actual production level – break even output To understand the role & purpose of break even analysis
Total Revenue Selling price x Quantity To understand the role & purpose of break even analysis
Total Revenue Selling price x Quantity To understand the role & purpose of break even analysis
Profit or loss? Total revenue – Total costs To understand the role & purpose of break even analysis
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