Turning a profit is the goal of every business, but it doesn't happen overnight. Calculating the break-event point (BEP) is a useful tool to determine when your product will become profitable. The BEP is the point at which your total costs and total revenue are equal.
The break-even point is more than the moment when you pop a celebratory bottle of champagne. It's also a useful figure to keep in mind when managing prices, operating costs and overhead. Let's go over how to calculate a break-even point using two different methods.
Terms in the break-even point formula
Before you calculate your BEP, you need to understand a few basic financial terms used in the formula:
- Fixed costs: costs that do not change with sales or volume, with little fluctuation (e.g., monthly rent or interest payments)
- Variable costs: expenses that fluctuate in proportion to production output or sales (e.g., materials and shipping)
- Sales price per unit: the price at which your unit or service will sell to customers for each individual product
- Variable costs per unit: variable costs for each unit, as opposed to the total variable costs
- Contribution margin: the difference between the sales price per unit and the variable cost per unit.
Break-even point formulas
There are two common ways to calculate the break-even point based on your needs: in units or sales dollars.
1. Calculating the break-even point in units
This calculation tells you how many units of a single product you need to sell to break even.
Break-Even Point = Fixed Costs ÷ (Sales Price Per Unit − Variable Costs Per Unit)
For example, a cosmetic company wants to know how many lipsticks from their line they have to sell to break even. Their fixed costs, including bills, payroll and rent, total $300,000. The current sales price for one lipstick is $10.95 and the current variable cost to sell one lipstick is $2.25.
Example break-even formula:
Break-Even Point = $300,000 ÷ ($10.95/lipstick − $2.25/lipstick)
Break-Even Point = $300,000 ÷ $8.70/lipstick
Break-Even Point = 34,483 lipsticks
The cosmetic company needs to sell 34,483 lipsticks to break even.
2. Calculating the break-even point in sales dollars
This calculation tells you how much money you need to make from the sale of a certain product to break even.
Break-Even Point = Fixed Costs ÷ Contribution Margin
For example, the same cosmetic company wants to determine how much money they need to make from the sale of lipsticks to break even. They know their fixed costs are $300,000, so they just need to figure out their contribution margin.
Contribution Margin = (Sales Price Per Unit − Variable Costs Per Unit) ÷ Sales Price Per Unit
Contribution Margin = ($10.95/lipstick − $2.25/lipstick) ÷ $10.95/lipstick
Contribution Margin = $8.70/lipstick ÷ $10.95/lipstick
Contribution Margin = 0.79
Example break-even formula:
Break-Even Point = Fixed costs ÷ Contribution Margin
Break-Even Point = $300,000 ÷ 0.79
Break-Even Point = $379,746
The cosmetic company must generate $379,746 in lipsticks sales dollars to break even.
When to use the break-even point formula
The break-even point isn't a static calculation. It's a tool you can use at any time during your business journey to understand when one of your business’s products will start to be profitable. Here are some examples of when you might use the BEP:
- Before you start your business. Calculating the break-even point can help you estimate revenues that a business will need to generate to cover fixed costs.
- Before you launch a new product or service. The break-even point formula can help you determine the amount of profit you need to generate in order to match or exceed the start-up costs of your business.
- Once you're ready to establish long-term business goals. Calculating the break-even point is a useful way to set long-term financial goals for your business, such as increasing your bottom line by evaluating your product mix. The break-even formula can help you determine the amount of money you need to carry your goals through to completion.
Using the break-even point formula can help you make smart business decisions that can contribute to your company's success and financial stability. Speak with a business banker and learn more about the resources available to you, including Chase for Business and Chase Payment Solutions
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