AAT Level 3 Break Even Analysis

Objectives 1) Define the term ‘Break-even analysis’; 2) Calculate the contribution per unit, break-even point, total cost and profit/ (loss) using the calculation and table methods. 3) Interpret Break-even charts and use these charts to calculate the break-even point; margin of safety; profit/ (loss) at different production levels 4) Calculate target profit required 5) Use the profit volume ratio to calculate sales revenues at the break-even point 6) Analyse profit-volume charts 7) Describe the advantages and disadvantages of using Break-even analysis 8) Discuss when break-even is used

Absorption Costing Marginal Costing £ Direct Materials X + Direct Labour X +Direct Expenses X + Production OH * X Absorption Cost X £ Direct Materials X + Direct Labour X +Direct Expenses X + Production OH X Marginal Cost X * Remember that Overheads are absorbed throughout the period using the OAR Marginal Cost IS Variable Cost

Chocolate!!! £ £ Direct Materials 1000 Selling price 3000 Example – Manufacturing chocolates 500 units had total variable costs of £1500 Selling price is £6 each = £3000 Fixed costs are £700 £ Direct Materials 1000 + Direct Labour 350 +Direct Expenses 150 Marginal Cost 1500 Remember that MC is VC! £ Selling price 3000 Les Variable Costs 1500 Contribution 1500 Fixed Costs 700 Profit 800

Where total costs = Total Sales Break Even Where total costs = Total Sales BE in Units = Fixed Costs Contribution BE in Value = Break Even Point (units) x Selling Price Per Unit

Activity 1 - Carl Wright Carl Wright, a market trader, makes and then sells his surfers neckwear for £19 each. The Variable Cost of producing each item is £14. This is also the Marginal Cost. Carl also has Fixed Costs of £200 a week for his sales pitch at an indoor market.   Calculate the contribution per unit and the break even point. Calculate the contribution per unit Selling Price per unit £19 Variable Cost per unit £14 Contribution per unit £5 Calculate the Break Even Point Total Fixed Costs Contribution per unit £200 = 40 units £5 Break even point in units = 40 Break Even in £ = 40 x £19 = £760

Activity 2 – Norfolk Press

Now try Activity 3

Margin of Safety Either: Actual Output – Break Even Point Or: Margin of Safety (output) X 100 Output produced In units As a %

a) If Carl produced 70 units his margin of safety (MOS) would be: Activity 4 a) If Carl produced 70 units his margin of safety (MOS) would be: MOS = Actual Output – Break Even Point BE point (from Activity 1) = 40 units Output = 70 units 70 – 40 = 30 units Margin of Safety = 30 units

b) If Carl produced 55 units his margin of safety would be: = Actual Output – Break Even Point BE point (from page 4) = 40 Output = 55 50 – 40 = 15 Margin of Safety = 15 units

c) If Carl produced 60 units his margin of safety as a percentage would be: = Actual Output – Break Even Point Margin of Safety (output) X 100% Output BE point (from page 4) = 40 Output = 60 60 – 40 = 20 Margin of Safety = 20 units = 20 x 100 60 = 33%

d) At an output of 70 units Carls percentage MOS would be: = Actual Output – Break Even Point BE point = 40 Output = 70 70 – 40 = 30 Margin of Safety = 30 units Margin of Safety (output) X 100% Output = 30 x 100 70 = 42.9%

Break Even Charts X axis is sales in units Y axis is costs in £ Using the information Carl Wright produce a breakeven chart It should have a key, axis labels and an appropriate heading

Break Even Chart Break even can also be calculated using a chart Describe the different features of a break even chart.

Ian Taylor Hand-out

Your turn! Complete activities 6 & 7

Targeted/Expected Profit = Total Fixed Costs + Expected Profit Contribution per Unit Selling Price per unit 19 Variable Costs per unit 14 Contribution per unit 5 Total Contribution (80 x 5) £400 Less fixed costs £200 Profit £200 Carl Wright (Activity 1) (Requires £200 profit) = 200 (FC) + 200 (EP) = 80 units 5

Activities 8 - 12

Activity 13 – Batman & Robin Selling Price per unit Sales Revenue ÷ Budgeted Units 5000000 ÷ 500000 = £10 Unit Contribution = Selling Price – Variable Costs Variable Costs per unit 1,000,000+1,250,000+1,500,000 = 3,750,000 Per unit = 3750000 ÷ 500000 = £7.50 1,000,000 2.50 400,000 480,000 Unit Contribution = Selling Price – Variable Costs = £10 - £7.50 = £2.50 Break even (units) = Fixed Costs ÷ Contribution per unit = 1,000,000 ÷ 2.50 = 400,000 units

Question 12 – Batman & Robin Margin of Safety = Output – Break even output =480000 – 400000 = 80,000 units 1,000,000 2.50 400,000 480,000 80,000 16.67 Margin of Safety as a % = MOS ÷ Output x 100 = 80,000 ÷ 480,000 x 100 = 16.67%

Complete Robin

Profit Volume Ratio Can be converted to a decimal £ Contribution per Unit x 100 £Selling Price per Unit Shows contribution per £ of sales (%) Can be converted to a decimal

Profit Volume Ratio Break even point £ = Fixed Cost Profit Volume Ratio Can also be used for target profit (just add targeted profit to the top line) Calculated on previous slide

Contribution per unit £25 Selling price per unit £32 Fixed costs £1100 Question 13: Using the PV ratio, what is the sales revenue required to break-even? Contribution per unit £25 Selling price per unit £32 Fixed costs £1100 £ contribution per unit x 100 £ selling price per unit = 25 X 100 32 = 78.13% or (0.78 as a decimal) Sales Required to Break Even = £ Fixed costs PVR (decimal) = 1100 = £1410 0.78

Will require some applied thinking! Practice Activities 14 - 17 Activities 16-17 Will require some applied thinking!

Profit-Volume Charts

Activity 19 b) £13,000 a) 2500 units