Why it's important to understand your breakeven position.

What is breakeven?

Breakeven turnover is the amount of sales in £’s needed to make your business earn a profit of zero.  Where the Turnover amount exactly covers the overheads of your business and all the direct costs associated with the sales.

To understand breakeven, it’s good to also understand the different costs:

Overheads or Fixed Costs

The costs that your business incurs regardless of its sales and do not vary with the number of sales you make.

Direct Costs or Variable Costs

The costs that vary with the number of sales you make.

So, a sale of £1,000 with Direct costs of £700 will have a £300 Gross Profit, and that is £300 towards paying your overheads.

So why is this important?

Breakeven is the simplest way for you to determine if what you charge your customers will cover what it costs to make, and deliver your products or services.

It also allows management to identify a baseline for the sales that need to be made each period. It goes without saying, that if you don’t cover your costs you will make a loss.

The higher your overheads are, the higher your breakeven point will be.

Calculating Breakeven

First, you need to determine your Gross Profit. Gross Profit is Sales less Direct Costs

So, a sale of one product for £1,000 with Direct Costs of £700 = £300 Gross Profit and when expressed as a % – 30% GP

(£300 / £1000 x 100 = 30% GP%)

Let’s say your business sells 45 of these products in the month.

  • This equates to sales of £45,000 (£1000 x 45)
  • With Direct Costs of £31,500 (£700 x 45),
  • Giving you a Gross Profit of £13,500
  • And a GP% of 30% (£13,500 / £45,000 X 100)

So, let’s follow this through and say your Overheads are £15,000 a month.

Your Breakeven Turnover would be £15,000 / 30% GP = £50,000.

This means you would need sales of £50,000 per month to breakeven. So, at the moment, you are making a loss because sales are £45,000 at a 30% GP.

What if we raise prices?

What if you put your prices up by 10% and lose 10% of your business?

Let’s say your business now sells 40 products in the month and the new price is £1,100 each (£1000 x 110%).

  • This equates to sales of £44,000 (£1100 x 44)
  • With Direct Costs of £28,000 (40 x £700),
  • Giving you a GP of £16,000
  • And a GP% of 36% (£16,000 / £44,000 X 100)

Let’s follow this through and say your Overheads are the same at £15,000 a month.

Your Breakeven Turnover would be £15,000 / 36% = £41,666.

You are now in a profit-making position.

Beware of giving discounts

If you regularly give discounts you could be in danger of making a loss on the products you sell. If the discounts bring the GP% lower than that required to breakeven, you could be running a loss on those products.

This could be fine if you have already made the sales required to breakeven and these are bonus sale, but if all your sales were at the discounted price you would make a loss.

Understanding Your Finances

Module 3 of The Organised Business Foundations Course helps you get a firm grip on your business.

Foundations is a business transformation programme which will improve the lives of small business owners, by allowing them to free themselves from their business, helping them to maximise profits and to make their businesses run like clockwork.

FIND OUT MORE HERE

By | 2018-03-05T00:21:29+00:00 February 23rd, 2018|The Organised Business|Comments Off on Why it's important to understand your breakeven position.