Presented to : Prof.M. P. REGE By; Mufaddal

Mandasurwala Parvaz Shaikh Saifuddin Kothari Shahzaad Shaikh Naveed Razvi Yashesh Shah

INTRODUCTION

Origins in the economic concept of the "point of indifference”

Break even can be expressed in terms of:-Value -Time -Quantity

DEFINATION

The point where salesor revenue will equal expenses and there is noprofit made or loss incurred at that point.

At which sales will equal costs At which income matches expenditure.

WHY BREAK EVEN POINT

Important who manages a business

Powerful quantitative tool for managers

Starting of Business

Managers can use this information

BREAK EVEN POINT

It is a point where sales revenue equals the costs to make and sell the product and no profit or loss is reported.

The Break Even Point of a company or a unit of a company is the level of sales income which will equal to the sum of its fixed cost and variable costs.

The Break Even Point is that point of activity (sales volume) where total revenues and total expenses are equal, it is the point of zero profit and zero loss.

Definations

Computation

In the linear Cost-Volume-Profit Analysis model, the break-even point (in terms of Unit Sales (X)) can be directly computed in terms of Total Revenue (TR) and Total Costs (TC) as:

TR=TC P x X = TFC + V x X P x X – V x X = TFC ( P – V ) x X = TFC X = TFC P - V where: TFC is Total Fixed Cost,P is Unit Sale Price, andV is Unit Variable Cost.

Computation

The break-even point can be more simply computed as the point where Total Contribution = Total Fixed Cost:

TOTAL CONTRIBUTION = TOTAL FIXED COST UNIT CONTRIBUTION x NUMBER OF UNITS = TOTAL FIXED COST NUMBER OF UNITS = TOTAL FIXED COST UNIT CONTRIBUTIONIn currency units (sales proceeds) to reach break-even, one can

use the above calculation and multiply by Price, or equivalently use the Contribution Margin Ratio (Unit Contribution Margin over Price) to compute it as

BREAK EVEN(IN SALES) = FIXED COST C/P

LimitationsBreak-even analysis is only a supply side (i.e. costs only) analysis.

It assumes that fixed costs (FC) are constant. Although, this is true in the short run, an increase in the scale of production is likely to cause fixed costs to rise.

It assumes average variable costs are constant per unit of output, at least in the range of likely quantities of sales. (i.e. linearity)

It assumes that the quantity of goods produced is equal to the quantity of goods sold .

In multi-product companies, it assumes that the relative proportions of each product sold and produced are constant

ASSUMPTIONS IN CVP ANALYSIS

Expenses can be classified as either variable or fixed

CVP relationships are linear over a wide range of production and sales

Sales prices, unit variable cost, and total fixed expenses will not vary within the relevant range

Continued… Volume is the only cost driver

The relevant range of volume is specified

Inventory levels will be unchanged

The sales mix remains unchanged during the period

BEP ANALYSIS

Remember:

A higher price or lower price does not mean that break even will never be reached!

The break even point depends on the number of sales needed to generate revenue to cover costs – the break even chart is NOT time related!

Importance of Price Elasticity of Demand:

Higher prices might mean fewer sales to break even but those sales may take a longer time to achieve

Lower prices might encourage more customers but higher volume needed before sufficient revenue generated to break even

Links of break even to pricing strategies and elasticity

Penetration pricing – ‘high’ volume, ‘low’ price – more sales to break even

Market Skimming – ‘high’ price ‘low’ volumes – fewer sales to break even

Elasticity – what is likely to happen to sales when prices are increased or decreased?

Intro to Management (tutorial 1)

15

Break-Even Chart

Intro to Management (tutorial 1)

16

When fixed costs decrease by $20,000, break-even decreases by 4,000 units ($200,000).

MARGIN OF SAFETY Definitions : Accounting: • Excess of actual sales revenue over the breakeven sales revenue,

expressed usually as a percentage. The greater this margin, the less sensitive the firm to any abrupt fall in revenue. Formula: (Actual sales revenue - Breakeven sales revenue) x 100 ÷ Actual sales revenue.

The quantity of units produced (or sales of these units) which are above the breakeven point is known as MOS

Continued…•Meaning: The Margin of Safety is the difference between

actual sales and sales at break even point

•Formula: Margin of safety = Actual Sales – Sales at Bep

For Example Suppose the Sales of XYZ ltd,is 1,20,000 units and the sales at Bep is 90,000 units, then M/S=1,20,000units-90,000units = 30,000units

Margin of Safety can also be computed from profit and P/V ratio, which is

M/S = Profit P/V Ratio

Costs/Revenue

Output/Sales

FC

VC

TCTR (p = £2)

Q1 Q2

Margin of Safety

TR (p = £3)

Q3

Break Even Analysis

Assume current sales at Q2.

Margin of safety shows how far sales can fall before losses made. If Q1 = 1000 and Q2 = 1800, sales could fall by 800 units before a loss would be made.

A higher price would lower the break even point and the margin of safety would widen.

FOR ANALYSING •Higher Margin of Safety Provides greater protection to the

company. The size of Margin of safety is an indicator of soundness of business

• It shows how much sales will decrease before the firm will suffer the loss

•Sales beyond the Break Even Point represent margin of Safety

•Larger the Margin of Safety, Greater the soundness of business and Vice-Versa…

ACTIONS TO IMPROVE MOS

1. Increase the level of production2. Reduce the Fixed and/ or Variable cost3. Increase the Selling Price4. Substitute the existing product with more profitable

products5. From the product mix, remove the product whose

contribution ratio is very low