uses of break even analysis

8/8/2019 Uses of Break Even Analysis

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General introduction

Break even analysis describes at which level cost and

revenue are in equilibrium.

Role of break even point is of particular importance.

It is a point of zero profit.

Level of production & sale below BEP leads to incurring

losses & vice versa.

B.E Analysis provides-microscopic analysis of areas of

strength and weakness and helpful in taking decisions.


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It is used for following purposes.

To find safety margin.

To find vol of sales necessary to reach Target profit.

To make decisions in regard with Changes in price.

To adjust firms sales volume or price when there is change in

costs.

To Make or Buy decisions.

Advertising directions.

To make Plant shutdown decisions.

Uses of BEP


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It helps management to know the profits generated at

various levels of sales.

While deciding volume and sales management need to know

should consider safety margin. Safety margin refers to the extent to which a firm can

afford a decline in sales before incurring losses.

Safety margin can be ascertained by foll formula;

Safety margin=(Sales-BEP) X100

250

Safety Margin


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The difference between actual output and the break-even output is

known as the margin of safety

revenue

and

osts

output

Total

Revenue

Total osts

Fixed osts

Break Even

Point in Units

TR = T

margin of

safety


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OUTPUT IN

UNITS

TOTAL

REVENUE

TOTAL

FIXED COST

TOTAL VARI

COST

TOTAL

COST

0 0 150 0 150

50 200 150 150 300

100 400 150 300 450

150 600 150 450 600600

200 800 150 600 750

250 1000 150 750 900

300 1200 150 900 1050

Total revenue, Total cost & BEP


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Q:From the table, at the level of 250 units of output and

sales, what is the level of safety margin ?

Safety margin=(Sales-BEP) X100

250


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During the slump-firm takes decisions regarding reduction inprice.

Reduction in price leads to?

---Reduction in contribution value. Vol of sales has to be increased to earn previous profits.

Reduction in price may or may not lead to increase in sales.

Management need to take a decision regarding increase invol of sales in order to maintain same level of profit Assuming that elasticity of demand remains constant.

Changes in price.


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If the total fixed cost of the firm is 8000rs,profit target is

20000,sale price is 8rs ,AVC is 4, the total target sales is

7000 units on basis of formula given for target profit,

WHAT IS NEW SALES VOLUME TO EARN PREVIOUS PROFITS?


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When cost changes, selling price and quantity produced and

sold must undergo changes.

Change in cost can be:

-change in variable cost,-change in non-variable cost.

When the variable cost or fixed cost changes the business

executive has to plan new price or new volume of sales to

maintain same level of profits.

Changes in costs.


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New sales volume = Contribution margin

Present selling price New V.cost price.

New sale price =( Present sale price + New variable cost

per unit-Present variable cost per unit).

Q:suppose cont margin of the firm is 63000, present sale

value is 10rs, the variable cost goes up from 6rs to 7rs, what

new level of sales volume or sale price?

Changes in variable cost.


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New sales volume = P.sales vol+(N.F.Cost - P.F.Cost)

(P.selling price - P.variable cost)

New Sale Price = p. sale price +(N.Fixed cost - P.Fixed Cost)

Present Sale Volume

Suppose fixed cost of the firm increases from 5000 to 6000,variable cost is 5, and sale price is 10 rs find new vol of

sales or new price?

Changes in fixed cost.


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BEP also helps the firm to decide whether a components

which are part of firms products should be manufactured

within the firm or should be brought from other firms.

Formula to Calculate make or Buy Decisions:

BEP = Fixed Cost

Purchase Price Variable Cost

Q:A manufacture buys a certain part for 40rs, if he decides to

manufacture himself then fixed cost is 48000 and variable

cost is 16 find BEP?

Make or Buy Decisions.


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T.c(A.E)r v

sts

tp t

T t l

S l s

T t l sts

Fix stsF. with vF. with v

Br k Ev

P i t i U its

TR = T

b


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BEP is also utilized for finding effects in operating

conditions on cost ,vol and sales

Example if a firm has a capacity to produce goods worth

40crores a year with F.C of 10 crores and marginal cont of40%. And it decides to expand its business from 40-60crores

with additional Fixed cost of 6 crores,but initially firms

sales can be increased to 50 crores only analyze the

situation ?


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In shut down decisions a distinction has to be made between

out of pocket cost and sunk cost.

Firm is compelled to operate at any point below shut down

point it would be desirable to close down plant.

Plant Shut Down Decisions.


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r v

sts

tp t

Sh t w p i t

BEP

T.

Acc pr fi

S k c s

O t f

P ck t

c st


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uses of break even analysis

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