Break Even Analysis

Question 1

What is the break even point (BEP)?

Answer 1

Where sales are starting to cover the costs and the business is able to make profit.

The BEP is a crucial financial metric that helps businesses understand the minimum sales needed to avoid losses.

Question 2

What is the margin of safety?

Answer 2

The amount by which demand can fall before the firm starts making losses.

It is calculated as margin of safety = sales - break-even point.

Question 3

What are the strengths of using break-even analysis?

Answer 3

• Estimates the future output level needed to meet profit objectives
• Assesses planned price changes upon profit and output level to break-even
• Aids in decisions about producing own products or purchasing from external sources

These strengths make break-even analysis a valuable tool for business planning.

Question 4

What are the weaknesses of using break-even analysis?

Answer 4

• Simplification
• Assumes variable costs increase constantly
• Ignores bulk buying
• Ignores discounts that firms frequently offer
• Assumes all output will be sold

These weaknesses can lead to inaccurate conclusions if not considered.