The point where your income revenue is equal to your cost is your breakeven point. If you can accurately predict you costs and margin then you can determine what your revenues need to be to pay your costs. This type of analysis is particularly helpful for a new business to decide if the business model will succeed.
You need to consider your fixed costs (those that do not change with volume) and variable costs (those that increase with volume.)
Your Fixed Costs include costs that do not vary significantly with a change in volume such as rent, insurance and office payroll.
Variable costs are costs that vary with volume such as cost of goods sold. If you are selling shoes the cost of shoes increases as you sell more units.
You need to determine what margin you need to make on gross sales (Margin not Markup.)
For Example if your fixed costs are $600,000 and you can maintain a margin of 30% then your volume needs to be at least $600,000 / 30% = $2,000,000.
Your cost on $2,000,000 in sales is $2,000,000 - $600,000 = $1,400,000. You mark up needs to be $600,000 / $1,400,000 = 43%.
You break even point is $2,000,000 in sales provided you can mark up your costs by 43% and have zero drift (reduction in margin due unforeseen items.)
You can now determine if $2,000,000 in sales is realistic. Is a 43% markup realistic? What so you want to make? There is no reason to operate at a break even. When you prepare you sales budget you need to budget sales to include not only breakeven but also profit. If the projections are unrealistic then you need to change fixed costs, productions cost or raise prices which may make the sales goals even harder to achieve.
Original Content copyright 2010 Thomas Robinson
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