by Guest Contributor-Betty Meneghin, SynTaxWorx
At Identity Graphic Design, we are all about giving you The Remarkable Advantage. Our client, SynTaxWorx, will give you the advantage you want in your profit margin!
What is your first weapon against eroding profits? It is a break-even analysis. If you’ve never created a break-even analysis, this article will walk you through the steps. The break-even analysis is an important financial tool for your business. It will help you identify the minimum sales you must generate to avoid sustaining a loss, calculate your desired profits and make financial projections.
When a business achieves a break-even volume, then total sales will equal total expenses. It’s a break-even point when the business doesn’t make or lose money. Break-even operation results are a bench marker to help management maintain and improve operating results.
To calculate a break-even analysis for your business, first, separate variable costs from the fixed costs. Use only true variable costs that are directly related to the number of units sold. Variable cost will increase or decrease in direct relationship with sales. Fixed costs do not in-crease or decrease in direct relationship with sales but instead are used to support sales regardless of the number of sales.
How Do I Allocate My Over Head Costs To Make a Consistent Sustainable Profit?
Today we will work with the following example:
- Rent $1200
- Utilities $350
- Office staff payroll $2396
- Advertising/marketing $500
- Office supplies $200
- Repairs/Maintenance $10
- Travel $200
- Meals/Entertainment $100
- General Insurance $150
- Accounting Fees $250
- Taxes $500
- Phones $250
Total Per Month Overhead = $6106
- Direct labor to produce or sell a product or service
- Direct materials used to make or sell the product
Job one takes your staff 2 hours at a rate of $14/hour to complete.
The material costs are $100 to make the product available to sale.
Total variable cost for one unit to be produced would be
(14 x 2) + 100 = $128
First we need to understand what makes up fixed and variable costs.
In this example, one unit of product or service is selling for $250.
Stay with me now…. You CAN do this!
The next step is to calculate a contribution margin. Contribution margin is defined as sales less variable costs. In our example the contribution margin would be as follows:
- Sales $250.00
- Variable costs 128.00
- Contribution Margin $122.00
Profit planning focuses on the accumulated contribution margin anticipated from a business’ total sales volume. A business will sustain a loss from its operations as long as the cumulative contribution margin remains insufficient to pay its fixed costs.
Alternatively, a business breaks even at the volume where the accumulated contribution margin from its sales equals its fixed costs. Identifying that point provides the foundation for the profit planning process.
Let’s start the profit planning process by calculating the Break-even Unit in Sales Volume using our example.
The formula is:
- Break-even Unit = Fixed Costs
- Sales Volume Unit Contribution Margin
- Break-even Unit = 6106
- Sales Volume 122 = 50 units
A 50-unit or $12,500 total dollar sales volume (50 X $250) will provide the cumulative contribution margin necessary for this business to breakeven. Each sale in excess of the 50 units provides a $122 profit. Should the business sell fewer than 50 units, the cumulative margin will fall short of the amount necessary to cover fixed costs. That will create a loss equal to $122 for each unit the business drops below the break-even sales volume. Don’t throw your hands up in the air yet! We are almost there!
Now you have all the pieces to figure your Consistent Sustainable Profit.
To calculate your desired profits, use the formula below:
- Break-even Unit = Fixed Costs + Desired profit
- Sales Volume Unit Contribution Margin
- Break-even Unit = 6106 + $10,000
- Sales Volume 122 = 132 units
A 132 unit or $33,000 total dollar sales volume (132 X $250) will provide the cumulative contribution margin necessary for this business to breakeven + produce the $10,000 desired profit. Each sale in excess of the 132 units provides a $122 profit. Should the business sell fewer than 132 units, the cumulative margin will fall short of the amount necessary to cover fixed costs + $10,000 desired profits. That will create a loss equal to $122 for each unit the business drops below the break-even + desired profit sales volume.
To check your calculation, put your figures into a profit and loss format. In our example,
Less COS 16,896
Contribution Margin $16,104
Less Fixed Cost $6,106
Consistent Sustainable Desired Profit $9,998
Most businesses carry a number of different products, and the various products typically have different sales prices, variable costs, and, consequently, contribution margins. Practical break-even analysis often requires a different calculation process. Still, the critical concepts do not change.
Congratulations, if you are still reading this, you have what it takes to hit your own books and take control of your business! At SynTaxWorx, we want our clients to be educated, informed and empowered.
SynTaxWorx planning packages for small business include the breakeven analysis along with many other financial and tax planning tools to help your company put your cash flow into a plan that will drive sales, protect assets and accumulate wealth all while controlling tax liability.
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– Betty Meneghin, founder SynTaxWorx