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Break even point: the quantity (or volume) at which a company makes neither a profit or a loss. ❑ Contribution Margin per unit: the sales price.
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Session 5 4th April 2019
A PRODUCT (OR ANY OTHER COST OBJECT ) CAN BE SAYED TO BE PROFITABLE (ECONOMICALLY AFFORDABLE) WHEN……
Linear Break-Even Analysis
Graphic Solution Method
Break-even point VC P 1 unit Q
Costs/Revenue Output/Sales
The Break-even point occurs where total revenue equals total costs. The firm, in this example would have to sell Q1 to generate sufficient revenue (income) to cover its total costs. Q
Breakeven Chart
Costs/Revenue Output/Sales
If the firm chose to set price higher than € 2 (say € 3) the TR curve would be steeper
Q
At present, this firms sells each unit for € 2 – Break Even point is at Q Breakeven Chart - simulation
Costs/Revenue Output/Sales
TR (p = € 2) Q
Any units sold above Break Even Point represents a Profit
Breakeven Chart - simulation
Equate total revenue and total cost functions and solve for Q TR = P x Q TC = FC + (VC x Q) TR = TC P x QB = FC + VC x QB (P x QB) – (VC x QB) = FC QB (P – VC) = FC QB = FC/(P – VC) Algebraic Solution
We must firstly calculate how much income from each bunch of flowers can go towards covering the Fixed Costs. This is called the Unit Contribution Margin Selling Price – Unit Variable Costs = Unit Contribution Margin €2.00 - €0.50 = €1. For every bunch of flowers sold € 1.50 can go towards covering Fixed Costs
Example (2)
Now to calculate how many units must be sold to cover Total Costs (FC + VC) This is called the Break Even Point Break Even Point = Fixed Costs Unit Contribution Margin € 600 € 1.50 = 400 Units Therefore 400 bunches of flowers must be sold to Break Even – at this the point the business is not making a Profit nor incurring a Loss – it is merely covering its Total Costs
Example (3)