Break even analysis Flashcards
Break-even
Used to find the level of output necessary to cover all costs (Where total revenue = total costs)
Contribution
Contribution is the difference between sales and variable costs of production
Margin of safety
The difference between the actual level of output and the break even level
Target level of profit
Once the BE point is calculated it is possible for a business to decide on a required level of profit (Target Level)
Stepped fixed costs
Also known as a fixed cost but it is more accurate to suggest that its a short term fixed cost. If production increases an additional machine might be purchased
How to construct and interpret a break-even graph
First draw the total cost line
Secondly draw the total revenue line
Where the total cost and total revenue meet is where the BE point is.
calculate and interpret contribution
Contribution per unit x number of units sold
calculate and interpret margin of safety
current sales minus the breakeven point, divided by current sales.
calculate and interpret the target level of profit
Determine the target profit: The target profit can be determined by considering various factors such as the business’s goals, industry standards, competition, and past performance.
Calculate the target profit margin: The target profit margin is the percentage of revenue that the business wants to keep as profit. It is calculated by dividing the target profit by total revenue.
Compare actual profit to target profit: The actual profit for a given period can be compared to the target profit to determine if the business is on track to reach its target. If the actual profit is lower than the target profit, it may indicate that the business needs to take action to improve its profitability.
calculate and interpret the impact on break-even
Determine fixed costs: Fixed costs are expenses that remain constant regardless of the level of production or sales. Examples of fixed costs include rent, salaries, insurance, and equipment.
Determine variable costs: Variable costs are expenses that change with the level of production or sales. Examples of variable costs include materials, labor, and shipping.
Calculate the break-even point: The break-even point can be calculated by dividing the total fixed costs by the profit per unit. Profit per unit is calculated by subtracting the variable costs per unit from the selling price per unit.
Interpret the break-even point: The break-even point is an important metric for businesses as it represents the point at which the business will start to make a profit. If the break-even point is reached, the business is operating at a profit, but if it is not reached, the business is operating at a loss.
calculate and interpret the impact on margin of safety
Determine the break-even point: The break-even point is the point at which a business’s revenue and expenses are equal, and there is no profit or loss. It can be calculated by dividing the total fixed costs by the profit per unit of the product or service.
Determine the actual level of sales or production: The actual level of sales or production is the current level of sales or production achieved by the business.
Calculate the margin of safety: The margin of safety can be calculated by subtracting the break-even point from the actual level of sales or production.
Interpret the margin of safety: A large margin of safety is generally seen as a positive sign for a business as it indicates that the business has a significant cushion against any decreases in sales or production.
calculate and interpret the impact on contribution
Determine the variable costs: Variable costs are costs that change in proportion to the level of production or sales. Examples of variable costs include raw materials, direct labor, and shipping costs.
Calculate the contribution per unit: The contribution per unit can be calculated by subtracting the variable costs from the selling price of the product or service.
Calculate the total contribution: The total contribution can be calculated by multiplying the contribution per unit by the number of units sold.
Interpret the contribution: The contribution represents the amount of revenue available to cover fixed costs and generate profit.
calculate and interpret the impact on target level of profit of changes in costs and revenue
Determine the target level of profit: The target level of profit is the amount of profit that a business aims to generate in a given period. This target can be based on factors such as industry benchmarks, past performance, and future plans.
Calculate the current profit level: To calculate the current profit level, subtract the total costs from the total revenue for a given period.
Identify changes in costs and revenue: To understand the impact on the target level of profit, it’s important to identify any changes in costs or revenue. This could include changes in raw material prices, labor costs, sales prices, or volume of sales.
Calculate the new profit level: Based on the changes in costs and revenue, calculate the new profit level by subtracting the updated costs from the updated revenue.
What is the impact of break-even analysis on a business and its stakeholders
Cost management: Break-even analysis helps a business understand its fixed costs and variable costs, which can inform cost management decisions. By identifying the minimum level of sales needed to cover costs, a business can make decisions about pricing and production that will help it reach its break-even point more quickly.
Investment decisions: Break-even analysis can help a business make investment decisions, such as whether to expand production capacity or launch new products. By understanding the impact of changes in costs and revenue on the break-even point, a business can make informed decisions about investments that will help it achieve profitability.
What is the usefulness of break-even analysis to a business and its stakeholders
Able to see how much they need to sell before they start making profits which can be used to predict the performance of the business in the longer term
