Women In Business

How to do a break-even analysis for your new business idea

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Have a business idea that you can’t get out of your head? Conduct a break-even analysis first to minimise your risk by making an informed decision. It is much simpler than it sounds but involves a bit of mathematical computation and thinking time.

 Doing a break-even analysis prior to venturing out helps you in many ways, so it’s always a good idea to understand the concept well. Read this article to find out how to go about it.

Defining break-even analysis

Based on fixed and variable costs and your product’s selling price, a break-even analysis is simply a calculation of how many units you will need to sell to pay for your necessary expenses before making a profit.

You can do this at the business planning stage as part of your marketing plan, because knowing the break-even point helps you set a better selling price and realistic sales goals.

How exactly do you calculate your break-even point?

By using the formula below:

Break-even = Fixed costs/ (Average price – Variable costs)

In other words, the break-even point is calculated by dividing your business’s fixed costs by the average price per product minus your product’s variable costs.

  • Fixed costs include expenses like office space rent, salaries, advertising, utilities, insurance and tax. Basically, any expense that stays constant irrespective of how many units you sell is categorized as a fixed cost.
  • Variable costs include cost of goods sold, inventory and raw materials. This expense is directly proportionate to the number of units sold.

You can even use templates available online to get started on the right track.

Key steps in a break-even analysis

Conducting an accurate break-even analysis depends on three main steps:

  1. Understanding the concept and key terms and definitions involved, as explained above, including the formula, types of costs and selling price.
  2. Gathering all input data and ensuring that it’s reliable. Make sure that you have not missed any major or minor expense. You can do this by running your list of inputs past another staff member who has a good idea of your company’s expenses if you don’t have an accountant per se.
  3. Plugging the data into a template or the formula and refining the results as you try out different combinations of data to see how each element in the equation affects the outcome.

Important considerations to lower your point of break-even

You can lower your break-even point by doing either of the following:

  • Increasing per unit price such that the number of units sold does not reduce significantly as this will have a negative impact on your profitability.
  • Lowering your fixed costs by taking on a lean approach towards spending your hard-earned capital on office space, stationary, insurance and other similar expenses. Look for ways to ensure that your money is not being frittered away by getting a good handle on your accounting system, including cash-flow.
  • Lowering your variable costs as the business scales.
  • Strategizing ways to sell products that yield a higher contribution margin to make profit faster.

About Faye Ferris

Faye Ferris is the APAC Sales and Marketing Director for BusinessesForSale.com, one of the world’s largest online global market places for buying and selling small-to-medium sized businesses. Faye is passionate about helping Australian small business succeed and regularly writes about entrepreneurship and business management. Twitter Handle: https://twitter.com/youareyourboss

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