What is a company's break-even point (SR)?
To know whether your business project is worthwhile, you need to determine whether your company is profitable. To do this, it's a good idea to draw up a business plan before setting up or taking over a company, in order to determine the financial objectives and economic and commercial strategies to be implemented.
Your company's break-even point (SR) is the main and fundamental element of your business plan as it determines the profitability and therefore the feasibility of your project. It's an invaluable tool that will help you make the decisions you need to make in order to have a successful business model. But what does it mean?
The term "break-even point" refers to the minimum level of annual sales (excluding VAT) that a company must achieve during the financial year in order to generate zero profit. This threshold determines the amount of sales required to cover all the company's costs and expenses.
The company neither loses money nor makes money, it breaks even.
Below the break-even point, the company is loss-making. Above the break-even point, it is profitable.
The break-even point is expressed in terms of value and quantity, unlike the breakeven point, which is expressed in terms of time, and which we'll discuss later.
Calculating your break-even point allows you to know how much sales you need to make in order to avoid losses, and then to make a profit:
- if sales exceed SR, the company is profitable,
- If sales are lower than SR, the company is unprofitable.
Why calculate a company's break-even point?
The break-even point is used by the entrepreneur to :
- Determine the minimum sales figure, i.e. the quantity of products or services you need to sell to cover your business costs and avoid losing money,
- determine how much sales you need to make in order to make a profit,
- define an achievable sales target for the end of the year and the financial year,
- define an action plan to achieve this sales target.
The break-even point is an essential management tool for any company, especially when looking for financing and investors.
Future investors or banks will need to know the SR and margin to be achieved for your company to know whether it will be profitable, so they can subsidize you with confidence.
A convincing, solid business plan will establish a budget forecast based on the SR calculation.
Knowing your break-even point will also enable you to steer and modulate spending to achieve your goal of financial balance and success.
You'll then be able to rationalize the costs of certain budget items if necessary, and have a quantified indicator of your company's attractiveness.
You'll also be able to find out whether your expenses are sufficiently under control to ensure the profitability of your business, and anticipate a growth strategy.
SR is therefore essential for company directors, both to assess the viability and profitability of their project , and to develop their business.
You should also be aware that any change in the way your business operates, such as hiring, investment or a new communications budget, will result in a change in your break-even point, which you'll need to recalculate.
The different types of company break-even points
There are three types of break-even point for a company:
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The break-even point in value, calculated in relation to the sales required to cover the company's expenses,
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the break-even point in terms of quantity, calculated in relation to the number of units (services or products) to be sold to cover the company's expenses,
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the break-even point, which estimates the time required (in months or calendar days) for the business to become profitable.
Breakeven point for a business: determining expenses
A business is always subject to costs, whether for starting up, running or expanding.
The first step is to calculate these costs by breaking down the company's expenses, i.e. the costs that the manager has to pay in order to carry out his business.
These costs are divided into two types, called fixed and variable costs.
Break-even point: the concepts of fixed and variable costs
To calculate your break-even point, you need to know your fixed and variable costs. What are they?
Fixed costs, also known as structural costs, are recurring costs that are independent of the level of business activity, and whose amount remains stable each year.
These expenses are paid according to a pre-defined periodicity and recurrence schedule, and their amount does not change, regardless of the company's level of production and sales over that period.
These include, for example, property rent for premises dedicated to the business (office, store, workshop, etc.), insurance premiums, taxes and social security contributions, fees, salaries, subscriptions, depreciation allowances, etc.
Conversely, variable expenses, also known as operating expenses, are costs directly linked to the company's volume of activity, and whose amount varies according to sales.
Examples include purchases of merchandise, raw materials, materials and supplies, distribution costs, subcontracting, etc.
The amount of these expenses can also vary according to the energy market, and the level of your production when it depends on energy. These include electricity and gasoline bills, for example.
Some expenses can be mixed, with one part fixed and the other varying according to the level of activity: these are semi-fixed and semi-variable expenses.
In addition to the concepts of fixed costs, variable costs and mixed costs, which you'll find in your income statement for existing businesses, let's now look at another concept that will enable you to calculate your company's break-even point (SR): the contribution margin.
To calculate your break-even point, you need to establish :
- the amount of fixed costs,
- the amount of variable costs,
- margin on variable costs.
The contribution margin is calculated from the contribution margin.
Break-even calculation: contribution margin
What's the contribution margin? It's simply the difference between the unit selling price and the variable cost of producing one unit.
- Margin on variable costs (MCV) = sales - variable costs
Now that you've assessed your company's fixed, variable and mixed costs, determine your contribution margin.
It is calculated as follows
- Contribution margin = (contribution margin / sales) X 100
- Margin on variable costs (MCV rate) = ((Sales - variable costs) / Sales) X 100
Finally, having established these elements, you can calculate your break-even point in one of two ways:
- Break-even point = fixed costs / margin on variable costs
- Break-even point = annual fixed costs + annual variable costs
These two calculation formulas can be adapted to the type of break-even point you want to know: in value or quantity, as well as in units of time with the break-even point.
Here are the different formulas for calculating break-even points in terms of value and quantity :
- Break-even value = break-even volume X unit selling price
- Break-even volume = fixed costs/ (unit selling price - variable costs)
Once you have all these figures, you can also draw up a differential income statement, which will enable you and your accountant, if you have one, to optimize your company's profits and reduce its losses.
In addition to calculating the overall break-even point, it's also a good idea to calculate the SR for each of the company's business areas (sales, production, after-sales service, etc.). To perform these calculations, take into account only the expenses inherent to the sector concerned.
What is a company's break-even point?
Calculating a company's break-even point is closely linked to calculating its breakeven point, which represents the minimum duration of activity required for the company to achieve zero profit and break even.
The break-even point is expressed as a number of days or months over a financial year.
Unlike the break-even point, expressed in terms of value or quantity, the breakeven point is expressed in terms of time, in order to know at what point in the company's life the break-even point will be reached.
From that point on, all sales become profit. Here's the formula for calculating the breakeven point:
- Break-even point = (break-even point / sales) X 365 days
- Break-even point = (break-even point / sales) X 12 months
A company's objective is to break even asquickly as possible in the financial year, in order to maximize profits.
If a company's break-even point is too high, it may be preferable not to launch the project, as the risk of a deficit is too great.
On the other hand, if this threshold is deemed to be at a reasonable level for your business, you must ensure that it is maintained at that level.
To do this, compare your SR with that of companies in your sector. If it's still too high compared with your competitors, you can reduce your fixed and variable costs and increase the unit selling price of your service or product.
You'll also want to analyze your company's various expense items , in order to identify any unnecessary costs, renegotiate rates with your suppliers, or change partnerships if necessary.
Consequently, a company's break-even point is essential for :
- manage your day-to-day business,
- its financial health and long-term viability,
- optimize fixed and variable costs,
- manage your sales and financial strategies,
- develop your business.
With the SR calculation, you can set yourself precise, attainable targets, and draw up an optimized action plan to ensure your company's success.
