Revenue Costs Break Even Analysis Flashcards
What is revenue and total revenue
money a business makes from sales also called turnover
Equation for total revenue
What can this equation be used for
money business receives from sales
TR= quantity sold x selling price
To calculate if they have made a profit or a loss
When is a loss made
If costs are greater than total revenue
What are fixed costs
costs that remain the same whatever the output eg rent, electricity, business rates
What are variable costs
vary in direct proportion to output
If output increases variable costs increase
If output is zero variable cost is 0
If output increases variable costs increase because raw materials are being used
Is this relationship always proportional
no because businesses can benefit from economies of scale and as output increases costs per unit straits to fall
Are all costs either variable or fixed
no some can be both eg labour costs - semi variable as overtime can be a factor
How are total costs calculated
fixed cost +variable cost
What costs does a business have when output is 0
only fixed costs no variable so fixed cost=total cost
What when a business starts production what will total cost be made up from
Fixed and variable
What is average total cost
Cost of production of each unit of output
Why does total cost fall as output increases
because total cost is made of fixed and variable
When does this fall in cost as output increases stop
until diseconomies of scale force variable costs to rise which push up average total cost of production
Managers must judge profitability what will they need to be considered in making this decision
They must decide to continue or discontinue production, invest in developing a product, increase Human Resources
What information will be needed to support this decision and how is this done
profitability information - to do this a cost must be allocated to each product, branch or factory
This can be done by dividing costs into direct costs and overheads
What are direct costs
costs from production eg rent, labour, materials
If direct costs are total led what will they give you
What will this total not indicate and why
Cost of production
Revenue as it does not include indices=ct costs/overheads
What are overheads
costs not related to production eg advertising
What is the equation for average total cost
ATC = total cost/output
What are the steps for break even analysis
Step 1 calculate monthly costs (separate fixed and variable)Identify what things are paid for each month which will be the same regardless of sales and cost variable - cost per unit to make
Step 2 calculate break even (how much each item sold makes for the business)
Every product has a variable cost and selling price what is the difference between the two known as
the contribution
What is the calculation for breakeven
BE = fixed cost/contribution per unit
Eg selling price is £9 variable is £5 so contribution is £4
If fixed cost is £200/month and contribution is £4/box how many boxes are needed to sell to break even
2000/4 = 500
How will they make a profit on the items
Selling more than 500 if they sell less than 500 it is a loss
What does breakeven analysis allow th business to do
calculate profit and loss at different levels of output
We know that with the product above if 650 boxes are sold profit will be made how do we calculate how much profit is made
difference between predicted and breakeven x contribribution
150x4=600=profit of £600
What does the break even graph tell you about fixed costs
they are 3000 regardless of output
How do we draw break even graph
Step 1 Plot fixed cost line
Step 2 add variable cost line by calculating variable cost at 3 points (if output is 0 variable cost is 0 points 1 and 2 calculate each output for eg 400 (variable cost x output level so 400x5=2000 select third output level eg 800 so 800x5=40000
What are business costs at every level of output
costs are fixed +variable
What will happen at 0 output to form point 1 what will point 2 be and point 3
there will only be fixed cost - point 1
Choose a level of output and fixed and variation eg at 100 fixed =3000 variable =2000 so total cost of output is 5000 - point 2
At 300 fixed cost is 3000 variable =4000 total =7000 3rd point
What is the final line what does it tell the business
revenue line
Tells the revenue at any level of sale
How is revenue calculated give an example
revenue - number of sales selling price
If sale =£9 at 0 sales revenue = 0 - point 1
Point 2 choose sales eg 200 sales x9=1800
Point 3 500 sales 500x9= 4500 sales
How do you find profit or loss at different output
find the difference between the revenue line and total cost line at different outputs using break even chart
Eg calculate profit at 700
Draw a line up from 700 to meet total cost and revenue line (if to the right of break even = profit and revenue line is above total cost line. Then calculate the difference between 2 line
What is business margin of safety
Difference between output level and breakeven output when output is above break even
EXAMPLE
If output is 900 units and breakeven is 500 units the margin of safety is 400
It is the amount demand can fall before business in cures losses
How is business margin of safety shown on a graph
it is the difference between break point and actual level of output
What will a business ensure and why
That they have a dog safety margin in case of sudden and unexpected drop in sales
A small margin puts the business at risk
If costs and revenues are not fixed what can the break even chart show
increase or drop in revenue and or profit
What will an increase in costs do to the revenue line
What happens if price is reduced
change it - it becomes steeper and will cut total cost line sooner so that break even will be at a lower level of output
The opposite
What will the impact of increased variable costs be on the total cost line
What is costs are reduced
If variable costs remain the same but fixed costs change what happens
change it becoming steeper and it will ut revenue line at higher output level resulting in break even at a higher leve of out put
Opposite happens
A parallel shift in total cost line
How useful is breakeven analysis why are they unhelpful
1 provides simple easy to understand representation of costs, revenue and potential profit
2 helpful part of business plan when seeking a loan
3 allows use of what if analysis - judge impact on profitability of cost and revenue changes - see impact of change on break even and margin of safety
1 BUT the method assumes all goods are sold and at the same price not wasted damaged or poor stock
2 linear relationships doesn’t work for economies of scale
3 some fixed costs are stepped as businesses grow costs may increase and there will be a sharp rise in fixed cost which makes it diffeicult to apply break even
