Break Even Point Analysis

Break Even Point which is in short is also known as BEP is the level of production at which the cost of production is equal to the revenue for a product. In accounting it is calculated by dividing the fixed costs of production by the price per unit excluding the variable cost of production. Earning a breakeven point in investing is when the market value of an asset is equal to its original cost. In other words, it's the level of production at which the total revenue of a product is equal to the total expenditure.

The BEP in options trading occurs when the price in a market of an underlying asset reaches a level at which there is no loss for the buyer. It is used in various areas of business and finance.

Calculation of breakeven point

Fixed costs are usually divided by gross profit margin to calculate the BEP point in a business. In the case of stocks, if a trader purchased a stock for $200 and after 9 months it fell from $250 to $200 again, then it means that it would have reached BEP.

The BEP of the stock market can be understood as if an investor bought Microsoft stock for $110. This is their breakeven point of the trade. If its price is above $110 then the investor will make profit and if its price is below $110 then he/she will be in loss.

Break-Even Analysis

It's a control technique which consists of the analysis of costs in relation to changes in the volume of sales and its impact on profit. Break Even Analysis concerned with determining the relationship between cost, volumes of sales and profit. One of the major concerns of the management of a firm relates to the impact of changes in the volumes of ales on profits.

Components of break-even analysis

Fixed costs

Fixed costs are costs which are determined when an idea goes into the production stage and depends on the level of production. Fixed costs include rent, salaries, taxes, interests, labour, depreciation and other operational costs. These costs are free from production and must be incurred even in the absence of production.

Variable costs

Variable costs are expenses that directly relate to the volume of production. Variable costs include raw materials, packaging, transportation, and other expenses related to production.

Break-Even Analysis formula

To calculate the break-even point in units use the formula: Break-Even point (units) = Fixed Costs ÷ (Sales price per unit – Variable costs per unit) or in sales dollars using the formula: Break-Even point (sales dollars) = Fixed Costs ÷ Contribution Margin.

Importance of BEP

Knowledge of BEP is very important as it helps in preparing a plan for a business, setting sales budgets and in deciding prices. BEP calculation holds an important place as it helps businesses to analyse critical profit drivers of one's business.

Also read:Compound Interest Formula

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