How to calculate break-even

What’s your business’s break-even point? That’s the amount of money you need to earn to cover your outgoings before you make a penny of profit. So your first job is to identify all costs, and they will be:

Fixed costs are expenses which don’t vary with sales volume, such as rent or administrative salaries. These costs have to be paid regardless of sales.

Variable costs are usually linked to sales volume and including purchasing costs, transport and staff wages and expenses.

Ideally, every source of revenue should be computed with its own break-even point - so should a particular product not be paying its way it can be fine-tuned or even dropped.

“Many experienced entrepreneurs won’t even start on a business plan unless their break-even forecast shows that projected sales revenue is likely to far exceed projected costs,” says Bethany Lawrence, a lawyer specialising in business start-ups.

Consultants say that any break -even analysis must include these assumptions:

* Fixed costs will remain constant
* Variable costs will change in direct proportion to activity
* Costs and revenue behave in a linear fashion
* Stock levels remain constant
* Sales methods and efficiency remain unchanged

Once you have made these assumptions, **add** at least 10 per cent to your fixed costs for things you can’t predict and **calculate** the average gross profit from each sale. Then **divide** your average gross profit by the average selling price to work out how much sales income is profit.

Once you’ve done these calculations it’s easy to figure out your break-even point. Just divide estimated annual fixed costs by your gross profit percentage to work out what sales revenue you need to break even.

Remember that it’s vital to regularly recalculate your break-even point – prices and costs constantly change and without knowing your precise break-even point you won’t know exactly what profit you are making.

So recalculating your break-even point should be part of your pricing policy to ensure you’re making money on everything you sell.

If regular checks show your break-even point is higher than your expected revenues there are two things you can do.

**Increase your overall gross margins**. The obvious way to do this is raising prices but if this isn’t an option, look to either lower variable costs or concentrate more heavily on products or services with the highest gross margins.

**Cut overheads**.  This doesn’t have to mean sacking staff. One small company recently put itself back into profit by taking back unnecessary company cars, no longer paying for business lunches, stopping directors’ perks… and serving tea instead of high-cost imported coffee!

“I never cease to be surprised by the number of people who over-estimate the actual income of their businesses,” says consultant Simon Fitzgerald, author of Does My Business Make Money? “The break-even point is only achieved when revenue reaches ALL business costs.

But I’ve had two small business clients recently who seemed to think that everything they took over the counter was disposable income. They had a nasty shock when they found that it wasn’t.”