Break-Even Point (BEP) in a business is defined as the point where you have generated enough sales to cover the costs of the business. Anything earned in sales by the business after the BEP is profit.
It’s a really important figure to have in your head so that you know instantly how well your business is performing financially.
To calculate it however, you need to understand the two different types of costs in your business- Fixed Costs and Variable costs.
(It would be handy for you at this point to dig out the Profit and Loss Statement from your last set of end-of-year accounts- You know the ones you never really look through properly!)
So what are Fixed and Variable costs?
Variable costs are often referred to as Direct costs or Costs of sales. They are the costs directly associated with providing your service or product. They might involve raw materials and other supplies. These costs increase if the business has a high sales/output and decrease if the business is quieter with lower sales/output.
Fixed costs on the other hand are the costs that the business incurs regardless of the amount of sales/output. They are often referred to as Overheads or Administrative expenses. Examples of these are rent, electricity, phones, wages etc.
Why do I need to know the difference to calculate my BEP?
The money taken into the business in sales, minus the cost of doing that business (i.e. variable costs, or, cost of sales) is called GROSS PROFIT.
This is the money that the business has left to pay its overheads (fixed costs). So you need to know those two separate figures to calculate break-even point.
The formula is: BEP = FIXED COSTS / Gross Profit % (expressed as a decimal)
Look at this example.
A business selling curtains has €30,000 in sales.
Its cost of sales is €10,000. (variable costs)
That means its gross profit is €20,000. If you express that as a percentage of sales its 67%.
Its fixed costs are €15,000.
Therefore the BEP is = 15,000 / 0.67 = €22,388.
This means that this business has to turnover €22,388 in sales to break even. All sales above that point are profit.
Typically with clients we work out their monthly BEP so they can set targets for performance in sales and costs management.
If you would like help with this why not give us a call.