Can your business reach a break-even point? Will it ever happen? How does it look like? A break-even analysis is the answer to know if you should invest and move forward with your business.
The break-even point is one of the most crucial things you really need to know about your business. And you need to have this understood before you actually even start to spend a dollar on your business.
Break-even is just a jargon word for: “Are we going to make money?” or “Are we going to make enough to pay all the bills?”
So, don’t you think that it’s important to understand what actually drives this sort of calculation?
Your break-even analysis really comes to answer and explain your fixed costs and your variable costs.
Actually, it allows you to understand the viability of your business.
Understanding fixed costs
Fixed costs – what are they?
To better understand this concept, let’s say we set a store at the market in the weekend and they charge me $100 to be there for the entire weekend.
So, let me ask you this question: If I sold 1 hot dog or 20 hot dogs, how much would my fixed cost be? Well, it’s $100. It is fixed.
No matter if you sell 1 hot dog or 20 hot dogs, you’re still going to pay $100. You need to sell enough hot dogs and make enough money off those hot dogs in the first instance, to pay for you being there. That’s your fixed costs.
Understanding variable costs
Variable costs are the costs that you have to cover for every time you make a sale. Now, we’ve just talked about fixed, which was the rent.
However, if I sold zero hot dogs then it hasn’t cost me anything because I haven’t sold any buns and haven’t sold any sausages.
I know what you’re thinking. You’re saying: “Hey, Andrew I already bought these hot dogs, I’ve already bought these buns and sausages.”
It’s a really good point. But can you just work with me for the moment? Let’s just put that to one side and let’s assume that we haven’t sold anything, thus it hasn’t cost us anything.
So, variable costs are directly correlated to what we sell. Let’s say we sell a hot dog for $2 and the bun goes fifty cents and the sausage goes fifty cents.
That means when we sell one hot dog our variable costs are $1. Let’s say that we sell a hundred hot dogs at $2 each. Two times a hundred, two hundred dollars.
Our variable costs are the sausage and the bun and those together are $1. Sells $200, costs $100.
So, what does a break-even analysis look like?
Continuing the calculations… How much does that leave you with? A solid $100, right? That’s awesome! We’ve just made a $100 profit.
But remember that fixed cost? Remember the price of the rent? You need to give $100 to cover the rent.
I know we haven’t worked out our time, we haven’t worked out electricity, we haven’t worked on any of these things.
But just to make it really simple, that’s what a break-even analysis looks like:
We need to sell a hundred hot dogs at $2 to cover a $100 in variable costs and to cover $100 in fixed costs.
And if we sell one hundred hot dogs, then we’ve got break-even. Made no money loss and no money. That’s the point where your business really starts moving into a positive setting.
Remember, before starting a business, you should always create a break-even analysis and identify your break-even point.
It is very crucial for the future of your business to understand if there are conditions to go forward and invest in a certain idea.
As such, go ahead and create a break-even analysis for your business and find the answers that you’re looking for.
If you’re not sure how to work out your break-even analysis, we are here to help. Contact us and we’ll establish a strategy for your analysis.