Using a Break-Even Analysis

When setting up a business, one of the things you will need to do is show that you are financially stable, or that you will be after you have run your business for a while. One way to do this is with a break-even analysis.

The first step in this analysis is determining or estimating your costs. In a business, you have two types of costs: variable, or changing, and fixed. Variable costs are hard to predict because they change based on the way things are going with your business. The more you produce, the more variable costs you will have. This covers things like supplies for creating your product or service, labor costs, and fuel. Fixed costs are easy to incorporate into a budget because they do not change. These may include rent, depreciation, and marketing costs.

In the analysis, you will compare your total variable and fixed costs to your sales revenue to determine how much sales volume you will need to produce in order for your business to have neither profit nor loss. This is called the break-even point.

This can be shown using a simple chart. One line will represent your costs, and the other your income. At some point the two will connect, and that will be your break-even point. Finding that point can help you plan for your business’s future and current needs.

What an Analysis Tells You

The break-even analysis may seem like a waste of time to the new business owner. After all, you want to make money, not break even. However, this is an important starting place. You need to know how much income is required for you to cover all of your expenses. If your business plan does not include this analysis, many who might choose to fund your business are going to struggle to put up the money, because you have not taken the time to analyze your most basic costs. You must have this analysis in your business plan.

Finding Your Break Even Point

To find your break even point, you will need to know or estimate your fixed costs, sales revenue, average gross profit from each sale, and average gross profit percentage (the amount of each dollar of sales income that is gross profit). In order to figure your average gross profit and profit percent, you will need to estimate your variable costs as well as your fixed costs.

Once you have these figures, divide your estimated annual fixed costs by your gross profit percentage. This shows how much sales revenue you need to break even. If you can make this amount, then your business will break even. If you can make more, you will have income. If you cannot make this amount, then you need to look for ways to improve profitability for your business.