When Will You Make a Profit?

December 31st, 2011 BY Claire Moore

Breakeven Analysis
profit lossBefore you start your business it’s a good idea to compile projections of your income and expenses. If you’re realistic you’ll soon figure out that it will take a while before you start to make a profit. You need to know when that will happen because you’ll have to figure out how you’re going to cover your expenses for the business and for yourself – and for how long. The magic moment where your business brings in enough income to cover its expenses is called the breakeven point. The sooner you meet that point, the sooner you start making a profit.

The calculation for breakeven requires you to categorize the costs of doing business. These costs fall into three general categories. Fixed costs are those costs that must be paid every month whether you conduct business or not. They are often referred to as overhead. Examples of fixed costs include: rent, basic utilities, and salaries for staff. Variable costs are those costs that go up and down in relation to your sales. The more widgets you sell the more costs are expended to make those widgets. These costs include the utilities to run the machinery that made the widgets, the cost of materials to make the widgets, and commissions to the sales people who sold the widgets.

A third category is mixed cost which, as it name implies, is part fixed and part variable. An example would be an employee who is paid a base pay plus commission calculated as a percent of sales.

Breakeven can be expressed in dollars or as a percent of revenue.
There are two steps to the calculation.

Step 1. 100% less Total variable cost = Contribution margin percent
Step 2: Total fixed cost divided by Contribution margin (decimal)
The result is your breakeven point in dollars.

How many units of product do you have to sell to breakeven?
You can calculate your breakeven point in units sold in a two step process.

Step 1: Selling price per Unit less Variable cost per unit = Unit contribution margin
Step 2: Fixed costs divided by Unit contribution margin

How would a consultant calculate breakeven?

If you’re a consultant who bills by the hour then an hour is one unit of production. If you determine that your annual fixed costs are $15,000 and you charge $50 an hour and your variable cost is $10 per unit then your calculation is:

________________Fixed Costs_____________ = number of hours needed to break even
Selling price per unit less Variable cost per unit

__$25,000__ = 625 hours per year
$50 – $10

If you only want to work 48 weeks during the year then divide 625 by 48 to figure out you only need to work 13 billable hours a week to breakeven. Lucky you!

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Categories: For Business Owners

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