Understanding the Profit Contribution of the Break Even Analysis
When companies use a break-even analysis Excel template, they must pay close attention to the profit contribution of each and every product or service sold. In our example above, the profit contribution is $500.00 and is calculated by taking the price of the product ($1000.00) minus the variable costs of the product ($500.00). This profit contribution is a pivotal aspect within the break even analysis.
In the following break-even analysis, there are two additional prices the company is considering charging for its product. There’s the original price of $1000.00 as outlined in our example above, and two additional prices of $1300.00 and $1500.00. While we’ve figured out the break even point based on the $1000.00 sell price to be 16 units, we’ll now calculate the break even point for the other two prices.
Break even quantity with a sell price of $1300.00
- BEQ = F/(P-V)
- BEQ = $8000.00 / ($1300.00 - $500.00)
- BEQ = $8000.00 / $800.00
- Break even quantity is 10 units
Break even quantity with a sell price of $1500.00
- BEQ = F/(P-V)
- BEQ = $8000.00 / ($1500.00 - $500.00)
- BEQ = $8000.00 / $1000.00
- Break even quantity is 8 units
These different prices are represented in the graph below. The “blue" line represents the break even quantity where the profit contribution is $1000.00 and where the product’s price is $1500.00. The “orange" line represents the break even quantity where the profit contribution is $800.00 and corresponds to the $1300.00 price. Finally, the “purple" line represents the profit contribution of $500.00 from our original price of $1000.00.
When looking at the graph, it’s important to note that the break even points occur when the combined profit contribution, from each unit sold, meets the company’s fixed costs. Anything below these intersection points is considered a loss for the company. Consequently, anything above these intersection points is considered profit.
It’s never as simple as just raising the price of a product. In this break even analysis excel template, we’ve shown how different prices will allow a fictitious company to achieve break even sooner. A given price must match the market’s and customer’s threshold for pricing tolerance. However, companies can achieve similar results by reducing both their fixed and variable cost structures. Reduce these costs, and the company is able to reach break even sooner.
Image Credit: http://www.morguefile.com/archive/display/702627