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

AAT Level 3 Break Even Analysis

£ Direct MaterialsX + Direct LabourX +Direct ExpensesX + Production OH*X Absorption CostX £ Direct MaterialsX + Direct LabourX +Direct ExpensesX + Production OHX Marginal CostX * Remember that Overheads are absorbed throughout the period using the OAR Marginal Cost IS Variable Cost Absorption CostingMarginal Costing

Chocolate!!! Example – Manufacturing chocolates 500 units had total variable costs of £1500 Selling price is £6 each = £3000 Fixed costs are £700 £ Direct Materials Direct Labour350 +Direct Expenses150 Marginal Cost1500 Remember that MC is VC! £ Selling price3000 Les Variable Costs1500 Contribution1500 Fixed Costs 700 Profit 800

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, 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 = 40Break Even in £ = 40 x £19 = £760

Activity 2

Activity 2 (5) Answer Units of output Fixed Costs Variable costs Total Costs Sales Revenue Profit / (loss) ,0009,000 99,000 24,000 (75,000) ,00018, ,00048,000 (60,000) ,000 36, ,000 96,000(30,000) ,000 54,000144, ,000 72, , ,00030,000

Now try Activity 3

Margin of Safety Either: Actual Output – Break Even Point Or: Margin of Safety (output)X100 Output produced As a % In units

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 = 40 Output = – 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 BE point (from page 4) = 40 Output = – 40 = 20 Margin of Safety = 20 units Margin of Safety (output) X 100% Output =20 x = 33%

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

Ian Taylor Hand-out

Your turn! Complete activity 6

Activity 7 Price, Porter & Co manufacturer packs of writing equipment for schools. The annual fixed costs of producing packs are £40,000 and the variable costs are £3 per pack. The packs sell for £5 each. a.Calculate the number of packs that the company needs to sell in order to break-even. a.How much profit will be made if sales are 35,000 per year? a.Suppose that fixed costs rise by 50%. Draw the new line for total cost on your break-even chart and state the new break-even level of sales.

Selling Price per unit19 Variable Costs per unit14 Contribution per unit 5 Total Contribution (80 x 5) £400 Less fixed costs£200 Profit£200 Targeted/Expected Profit = Total Fixed Costs + Expected Profit Contribution per Unit (Activity 1) (Requires £200 profit) = 200 (FC) (EP) = 80 units 5

Activities

Activity 13 – Batman & Robin 1,000, , ,000 Selling Price per unit Sales Revenue ÷ Budgeted Units ÷ = £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 = ÷ = £7.50 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 13 – Batman & Robin 1,000, , ,000 80,000 Margin of Safety = Output – Break even output = – = 80,000 units Margin of Safety as a % = MOS ÷ Output x 100 = 80,000 ÷ 480,000 x 100 = 16.67% 16.67

Complete Robin

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

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 = 78.13% or (0.78 as a decimal) Sales Required to Break Even =£ Fixed costs PVR (decimal) = 1100= £

Practice Activities Activities KKQs Will require some applied thinking!