How To Do a Break-Even Analysis

When running your own business, you'll want to know how long it'll take before you start making a profit. A handy way to find out is by calculating your break-even point. As the name suggests, this is the point where at which the costs of running your business and your sales break even. The equation for a break-even analysis goes like this:

Break-even Point = Fixed Costs/(Unit Selling Price - Variable Costs)

Now don't let the math intimidate you - it's actually a fairly simple computation. Let's look at each part of the equation to get a better understanding.

Fixed Costs - All start-up costs, rent, insurance and other costs that remain static regardless of how many items you sell are fixed costs. These are the investments you spend on before you even start selling.

Unit Selling Price - This is the price at which you sell a specific item. There are two main methods to figure out what price to put on your wares. The first, cost-based pricing, involves figuring out how much it'll cost you to produce an item then adding whatever profit you desire to that amount for the final price. However, this is typically frowned upon, since any competitor who finds a cheaper way to produce the same item can undercut your business. The other method, price-based costing, calls for figuring out how much your consumers are willing to pay for your item, then adjusting your production costs accordingly.  This enables you to adjust your prices more easily when competition comes calling.

Variable Costs - These are the costs it takes to produce, brand and label your items, as well as labor and other operational costs. As your business grows, these costs will likely adjust as you add or subtract things to get your business to run more smoothly.

Now that we know what goes into the formula, let's take another crack at it:

Break-even Point = Fixed Costs/(Unit Selling Price - Variable Costs)

We can now see that the break-even point will help us figure out how many items you'll have to sell in order to offset the costs it took to start up your business. You can then figure out if the prices you're selling at will help you break even within a reasonable amount of time, based on the rate of how many units you can project selling. Once you've hit the break-even point, any profit you make from then will go happily into your bank account.

Online Calculators - Now, if you'd rather have a computer do the math for you, there are several break-even calculators available online. They are very user friendly and handy.

Remember that while break-even analysis is a useful tool, it does not predict the demand for your product. It can tell you how many items you'll have to sell to break even, but it can't tell you if that amount will actually sell. Keep in mind that you'll only really get your business to grow if you have the right product at the right price.


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