Break-Even & Capacity
What is the minimum amount of sales volume a business can generate and still break-even for the period? Every business owner wants to know this number for two reasons: so they know how low they can go with their pricing and so they can measure how far their future sales volume can carry them in a worst case scenario.
In order to correctly calculate a company’s break-even, we need to know two things: the contribution margin as a percentage of sales and the firm’s fixed costs. This will tell the business how much they must sell in terms of dollar volume to break even. With the unit prices and a weighted estimate of how many of each unit will be sold, the business can then determine how many units they must sell to break-even.
Here is a basic example:
BREAK EVEN SALES (DOLLARS) = FIXED COSTS / CONTRIBUTION MARGIN %
BREAK EVEN SALES (DOLLARS) = $100,000 / 40%
BREAK EVEN SALES (DOLLARS) = $250,000
In contrast to the break-even of the firm, every company has a maximum amount of volume that it can produce through its fixed costs. This is known as the maximum profit point of the firm, and this level is the most desirable place to operate the business.
When our part-time CFOs help our clients to understand these important points in their businesses, our clients are able to focus all of their strategies on maximizing cash flow, improving profit, and incenting their employees to do the same.