BreakEven Analysis Breakeven Analysis performed to determine the
Break-Even Analysis Break-even Analysis – performed to determine the value of a variable that makes two elements equal. In economic terms: determining a parameter such that revenue equals cost. The study parameter might be: • • • Production Volume Percentage of capacity Labor rate Replacement cost Etc.
Break-Even Analysis Cost Function: Fixed Cost (FC) – that cost which does not vary based on production volume. Includes building, insurance, fixed overhead (e. g. Engineering staff), equipment recovery cost, information systems, etc. Variable Cost (VC) – that cost which varies as production volume varies. Includes direct labor, materials, warranty, utilities (power consumption), marketing, etc.
Break-Even Analysis Cost Function – cont. : Total Cost = Fixed Cost + Variable Cost presented as a function of production volume.
Break-Even Analysis Breakeven Point What is the breakeven point in terms of Production volume?
Break-Even Analysis Breakeven Point –cont. FC = $10, 000 VC = $5000(per 1000 units) Revenue = $8000(per 1000 units) Let Q = Production Volume (000 s) QBE = Production Volume (000 s) at the Breakeven point Total Cost = Revenue $10, 000 + $5000*QBE = $8000 *QBE = 10, 000/3000 = 3. 333 (000 s) = 3333 units
Break-Even Analysis Sensitivity Analysis Impact of reducing or increasing one factor while holding the other constant. Example: What is the QBE if VC varies from $4000 to $6000?
Break-Even Analysis In-Class Exercise Your starting salary upon graduation is $50, 000 / year. The state takes 6%, the Feds take 21%, 7. 5% Social Security and Medicare takes another 3%. Using good tax advice, you are able to reduce your total taxes by 20%. How many months do you work for free (in other words, what is the breakeven point in months between taxes and salary)?
Break-Even Analysis In-Class Exercise
Break-Even Analysis Breakeven analysis between two alternatives: If demand for the product is 1, 000 units a month, which alternative should you choose? 3, 000 units a month?
Break-Even Analysis Breakeven analysis between two alternatives: What is the breakeven point? FC(1) = $10, 000 FC(2) = $15, 000 VC(1) = $5000 / (000 s units) VC(2) = $2000 / (000 s units) $10, 000 + $5000*QBE = $15, 000 + $2000* QBE $3000 * QBE = $5000 QBE = 1. 66 (000 s units)
Break-Even Analysis Breakeven analysis AW approach: Two alternatives exist for a machining process. Alternative 1 has an initial cost of $10, 000 and a salvage value of $1000 after 5 years. Alternative 1 also has a variable cost of $1/unit of product produced an annual maintenance of $1000. Alternative 2 has an initial cost of $15, 000 and a salvage value of $2, 000 after 7 years. Alternative 2 also has a variable cost of $0. 80/unit of product produced an annual maint. cost of $1200. What is the breakeven point in annual production volume? Assume a MARR of 10%.
Break-Even Analysis Breakeven analysis AW approach: Let x = annual production volume. AW 1 = -$10, 000 (A/P, 10%, 5) + $1000(A/F, 10%, 5) - $1000 – 1. 0 x AW 1 = -$10, 000(. 2638) + $1000(. 1638) - $1000 -$1. 0 x AW 1 = -$3474. 2 - $1. 0 x AW 2 = -$15, 000 (A/P, 10%, 7) + $2000(A/F, 10%, 7) - $1200 –. 8 x AW 2 = -$15, 000(. 20541) + $2000(. 10541) - $1200 - $. 8 x AW 2 = -$4070. 3 - $. 8 x -$3474. 2 - $1. 0 x = -$4070. 3 - $. 8 x x = 2980. 5
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