BREAK EVEN ANALYSIS

By- Fozia Mehtab

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  Break-even analysis is a technique widely used by production
management and management accountants to determine at what stage
a company, or a new service or a product, will be profitable.

 Break even analysis is the study of break even point which indicates the
quantity of sales volume where the business recovers its total cost.

 It is also called no profit no loss point as at this stage total cost and
total sales of the of the product becomes equal.

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  There are mainly two basic types of costs a company incurs.
• Variable Costs
• Fixed Costs

 Variable costs are costs that change with changes in production levels
or sales.
Examples : Cost of raw material, packaging cost, fuel etc.

 Fixed costs remain roughly the same regardless of sales/output levels.

Examples : Rent, Insurance, Furniture and salaries etc.

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  All elements of cost i.e. production, administration and selling distribution can be
divided into fixed and variable components.

 Variable costs remain constant per unit of output.

 Fixed cost remain constant at all volume of output.

 Selling price per unit remains unchanged or constant at all levels of output.

 Volume of production is the only factor that influences cost.

 There will be no change in the general price level.

 There is one product and in case of multiple production, the sales remain constant.

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  Helpful in deciding the minimum quantity of sales

 Helpful in examining effects upon organization’s profitability.

 Helpful in deciding about the substitution of new plants.

 Helpful in deciding the sales price and quantity.

 Helpful in determining marginal cost.

 Helpful in making or buying decision

Quantity Required< BEP(units)= Buy

Quantity Required > BEP(units)=Make

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 Break-Even Point in Units:

Break-even Point in terms of budget-total or money value:

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 Profit volume ratio indicates relationship between sales volume and
profit of a company and it tells about the volume of sales required at
different price levels

 P/V ratio = Selling Price - Variable Cost p / Selling price

Or
contribution / Selling price

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  The margin of safety is the difference between the amount of
expected profitability and the break-even point.

 Margin of Safety = Total Sales – Sales at Break-Even Point

Margin of Safety (M/S) = Profit/P/V Ratio

 M.S. Ratio = M.S./Sales × 100

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 Problem:1
i) Calculate BEP in sales value and in units and

ii) Number of units that must be sold to earn a profit of Rs.90,000.

Cost Amount (In Rupees)

Fixed Factory Overhead Cost 60,000

Fixed Selling Overhead Cost 12,000

Variable Manufacturing Cost per unit 12

Variable Selling Cost per unit 3

Selling price per unit 24

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 Solution: 1

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 Problem:2
From the following data, you are required to calculate:

(a) P/V ratio

(b) Break-even sales with the help of P/V ratio.

(c) Sales required to earn a profit of Rs.4,50,000

Fixed Expenses = Rs.90,000

Variable Cost per unit:

Direct Material = Rs. 5
Direct Labour = Rs. 2
Direct Overheads = 100% of Direct Labour

Selling Price per unit = Rs. 12.

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 Solution: 2

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 Problem-3
Calculate P/V Ratio, BEP and Margin of Safety:

i) on the original selling price,

ii) after increase in selling price
iii) after increase in variable cost and
iv) increase in total fixed cost
v) increase in number of units sold

Original After 10% increase

Number of Units 8,000 8,800

produced and sold
Unit Selling price 20 22

Unit variable Cost 10 11

Total fixed Cost 40,000 44,000

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 Solution:3

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  Margin of safety represents the strength of the business. It enables a
business to know what is the exact amount it has gained or lost and
whether they are over or below the break even point.

 margin of safety = (current output - breakeven output) OR

 Margin o safety = actual sales – BEP sales

 margin of safety% = (current output - breakeven output)/current

output × 100

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  Break-even analysis is only a supply side (costs only) analysis, as it tells you nothing
about what sales are actually likely to be for the product at these various prices.

 It assumes that fixed costs (FC) are constant

 It assumes average variable costs are constant per unit of output, at least in the range of
likely quantities of sales.

 It assumes that the quantity of goods produced is equal to the quantity of goods sold
(i.e., there is no change in the quantity of goods held in inventory at the beginning of
the period and the quantity of goods held in inventory at the end of the period.

 In multi-product companies, it assumes that the relative proportions of each product

sold and produced are constant.
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  A company should determine its break even point before selling its products.

 In order to know how price your product, you first have to know how to calculate
breakeven point.

 Break-even analysis is a supply side analysis; that it only analyzes the costs of the sales.

 It does not analyze how demand may be affected at different price levels.

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 THANK YOU

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