Your Breakeven Point Calculation Is Critical To Success
Posted by MyChoices on 01/29/08 in Business
Nobody wants to break even. We all want to sell products beyond our wildest dreams. But, knowing how many orders or sales it will take for you to reach your break even point is critical to your success. I know, you might be thinking, “Hey, I didn’t expect to have to use arithmetic to be a successful marketer.”
Fortunately for you and me both, the math involved is pretty simple. Well, ok, there are some percentages involved too, but most businesspeople I know are addicted to percentages anyway, so that shouldn’t be too much of a problem.
The Basic Idea
You figure the breakeven point by subtracting your unit cost from the price of your product to get your net profit per unit. Then you divide your total costs or marketing campaign costs (depending on how you want to do it) by the net profit. The result is the number of units you need to sell in order to break even.
It sounds simple enough, but I’m always amazed that so few small business owners actually have gone to the trouble to calculate all of their costs. In fact, most pricing, marketing and sales decisions go something like this: “Our competitor sells their widget for $10, so we’ll sell ours for $9.50.”
Sound familiar?
A Sample Calculation
Ok, let’s give this a try. Subtract your total unit cost from the unit sales price, including shipping. In this example, you’ll subtract a variety of costs from your sales and shipping price of $104.95 as shown below:
Product Price
$89.95 Sales price
$15.00 Shipping and handling
=====
$104.95 Total price
Costs
$10.00 Product cost per unit
$25.99 Overhead per unit, including marketing
$ 4.50 Returns
$ 0.62 Credit card fees
=====
$41.11 Total cost per unit
Net Profit per Sale
$104.95
-$ 41.11
=======
$ 63.84 Net profit per sale
Calculate Total Costs
Now calculate your total costs:
Overhead
$148,000 per year
Product
$246,660 per year
(Based on 500 units produced each month at a total cost of $41.11, including credit card charges, returns, and so on.)
Total
$394,660 per year
Now divide your total costs by 12 to get your monthly cost:
$394,660 / 12 = $32,888 monthly costs
To calculate your breakeven point per month, simply divide your total monthly cost by your net profit per sale:
$32,888 / $63.84 = 524 units
Oops! You’ve got a problem. At that price, you can’t break even until you’ve sold more units than you’re making each month. You’re not making enough profit to actually stay in business. You need to increase your expected number of sales, production numbers, profit margin, or all three.
Let’s try marking your product up by 50%:
$89.95 X 25% = $22.49 markup
$22.49 + $89.95 = $112.44 unit price
$112.44 - $41 = $71.44 net profit
$32,888 / $71.44 = 461 units breakeven point
Now you can see that you’ll break even after selling 461 units, and assuming you sell all 500 production units a month, your profit will be $2786.16 ($71.44 profit on 39 units).
That’s more like it. You’ll need to sell 461 units at $112.44 each to break even each month. Try doing this exercise with different numbers. I hope you can see how you can fiddle with the numbers until you figure out how all the parts work together: pricing, overhead costs, production units, and profit.
Of course, this was a simplistic example with few numbers. A simple calculation like this isn’t meant to be the complete answer to your pricing problems. You’ll want to use your own numbers and try them out with several possible scenarios. Also, there are many ways to price a product or service, some of which depend solely on what the market will bear. But, with luck, these tips may give you a better understanding of your pricing options.
For more than 25 years, Mark Smallwood has worked as a writer, marketer, small business owner, and software industry manager and executive. You can read Mark’s regular blog http://www.eversmall.com on real world issues facing solo entrepreneurs and small businesses.
Tags: accounting, breakeven, budgeting, overhead, pricing, Sales
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