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Break-even sales revenue is the amount of money a business must earn from sales to offset the cost of doing business. This includes the cost of materials, personnel, processes, and overhead. When a company earns more than the break-even sales revenue amount it will show a profit. If it earns less, the company’s income for that period will be a loss. The break-even point is where the two amounts are exactly equal to one another.
An important function of determining the amount of the break-even sales revenue is to help a company decide whether or not a product can be profitable. If the sales appear that they will be too low, the company is not likely to produce the item. For new businesses, a break-even analysis is an important part of the business plan and helps to show whether or not the company will be viable.
To determine the amount of break-even sales revenue a company requires, it is necessary to perform a break-even analysis. This process requires knowing the average per unit sales price, the average per unit variable costs, and the amount of the average annual fixed costs. If any one of these numbers is missing it is impossible to determine the break-even point for the company.
The average annual fixed costs include the costs of operating the business in general. These are expenses that don’t vary by the amount of production, though there may be other reasons these numbers will vary from time to time, such as heating costs that change in the winter. Typical fixed costs are building rent, and utilities.
Sales price is typically determined by a number of different factors, but is generally based on market conditions and the selling price of competing products. It can fluctuate somewhat due to changes in pricing including such factors as sales or quantity discounts. Using the average price helps to stabilize the figure, even if it changes over time.
Average per unit variable cost represents the overall expenses incurred while producing the item, taking into account factors that may possibly fluctuate if production levels change. If production increases materials may cost less per unit due to quantity discounts on raw materials. The opposite is true as well, so if production decreases the average cost per unit produced is likely to be higher.
Once the figures are determined, the break-even sales revenue can be calculated by first dividing the average per unit variable cost by the average per unit sales price. Subtract the resulting number from one and then divide that number into the average annual fixed costs to determine the break-even sales revenue. Sales above that amount yield a profit and sales below that number result in a loss.
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