Blue Elevator Blog

Calculating Your Break-Even Point

Now, if you’ve done all your homework, you are ready to calculate your Break-Even Point.

If you haven’t already, you can read these primer articles in the following order:

• Break-Even Point
• The Break-Even Model
• Calculating Gross Margin
• Below the Line Costs
• Break-Even Point and Balance Sheet Activity

Once you have been through all of those articles, you are ready to calculate your Break-Even Point.

How to Calculate Your Break-Even Point

All along, like a recipe, you have been assembling all your ingredients for your Break-Even Model (BE Model).

Now, let’s assemble them and calculate your Break-Even Point.

Additionally, we are going to go in reverse order of the article listing above.

Step 1

List out (usually by vendor) all of your Below the Line costs from your P & L.  Then, convert these from an annual cost (to a monthly cost) on a straight-line basis.  That is: Total Annual Cost divided by 12.

Step 2

List out (usually by vendor) all of your cash-affected Balance Sheet account activity.  Then, like in Step 1, I convert these from an annual cost (to a monthly cost) on a straight-line basis.  That is: Total Annual Cost divided by 12.

[PRELIMINARY COST SUMMARY]

At this point, your total from Step 1 and Step 2 should represent the total amount of cash your organization needs to generate each month to stay in business.

In essence, these are your Total Fixed Costs.  Whether you sell one widget or one million widgets, this is the total amount of Fixed Costs that must be covered.

The key here is completeness.  To clarify, you should list anything and everything you need to pay in order for your organization to continue as a going concern.

If you have analyzed your P & L and Balance Sheet for a complete 12-month period, God willing, this is a good way to avoid missing something.

But, double-check to make sure you haven’t missed anything.  Here are some common items you might miss or overlook:

• Taxes
• Required distributions to owners and/or shareholders
• Notes Payable payments to creditors
• Balance Sheet liabilities that don’t flow through the P & L (e.g., perhaps items that have already been accrued in prior years that are being paid or need to be paid)
• Distributions

Step 3

It is here where you will need to recall the work you did when Calculating Gross Margin.

Solve for X

Basically, you are going to solve for X and answer this question:

How many widgets must I sell at my calculated Gross Margin to pay all of my bills?

Now, you could be the CFO of a Fortune 500 company or a start-up entrepreneur.  But, the question (and the process) is still the same.

Example

Let’s say your total Fixed Costs (on a monthly basis) are $250,000.  And, again, this is entirely scalable.  You could be a start-up with $2,500 or $25,000 of monthly Fixed Costs.  Or, a global company with $2,500,000 of monthly Fixed Costs.

But, let’s go with $250,000.

Let’s also say your Gross Profit Margin is 40% and you sell widgets at $1,000 each.

So, how many widgets do you have to sell every month to break even?

Using Algebra

#(Widgets x $1,000) x 40% = $250,000

#Widgets x $1,000 = ($250,000 / 40%)

#Widgets x $1,000 = $625,000

#Widgets = $625,000 / $1,000

#Widgets = 625

Therefore, your monthly Break-Even Point is 625 widgets.  This means you need to sell 625 widgets every month to cover your bills.

Conclusion

Well, there you have it: a general, simplified overview on how to calculate your Break-Even Point.

Contact us if you have any questions!