1. GCSE Business Studies Unit 2 Developing a Business
Break-Even

2. Learning Outcomes Students should be able to:
calculate break-even both graphically and by formula
explain the significance of the break-even point
distinguish between fixed and variable costs
label a break-even chart
analyse a break-even chart
calculate the margin of safety and explain its significance for a business
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Break-even
Break-even is the point where:
total sales revenue is the same as total costs
a business is neither making a profit nor a loss
if sales revenue is greater than the break-even point the business will make a profit
Break-even can be calculated by formula or graph
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4. Importance of Break-even
Shows the amount of goods needed to be sold in order to cover costs and go on to make a profit
Used to set the price of a product
Assesses the impact of planned price changes
Assesses how changes in fixed and/or variable costs may affect profit
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Fixed Costs
do not change with output
have to be paid regardless of the number of items produced
examples of fixed costs include:
Rent
Rates
Insurance
One thing to remember fixed costs can change. An example of this is if a firm decides to expand and move to larger premises they will increased rent and rates
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6. Images © thinkstockphotos.co.uk
Variable Costs
do change with output
vary according to the number of items produced
examples of variable costs include:
Raw materials
Production wages
Transport of goods
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7. Break-Even Formula Fixed Costs Contribution Contribution
Selling Price per unit – Variable Cost per unit
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8. Images © thinkstockphotos.co.uk
Princess Pooches
Emily plans to open her own dog grooming business, called Princess Pooches and has asked you to help her work out the break- even point for her business.
The fixed costs are £30,000 per year, the selling price per unit is £40 and the variable cost is £15 per unit.
Your task – Calculate the break-even point for Emily’s business.
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9. Contribution Contribution
Selling Price per unit – Variable Cost per unit
£40 – £15
Contribution = £25
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10. Break-even Formula 30,000 25 Break-even = 1200 dogs groomed per year
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11. How to Draw a Break-even Chart
Costs/ revenue
(£)
Fixed Costs
Output (units)
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12. Images © thinkstockphotos.co.uk
Add Total Cost Line
Total costs
Costs/ revenue
(£)
Fixed Costs
Output (units)
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13. Images © thinkstockphotos.co.uk
Add Total Revenue Line
Total Revenue
Break-even point
Total costs
Costs/ revenue
(£)
Fixed Costs
Output (units)
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Margin of Safety
Total Revenue
Break-even point
Total costs
Costs/ revenue
(£)
Fixed Costs
Margin of Safety
Current Output
Output (units)
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15. Margin of Safety Margin of Safety Current Output – Break-even Point
Margin of safety if the difference between the break-even point and the current level of output. It is a safe margin because the business will be making a profit, between these two point.
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Princess Pooches
Emily thinks she will be able to groom 1600 dogs per year.
Calculate:
Her margin of safety
Her projected profit
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17. Margin of Safety Margin of Safety Current Output – Break-even Point
1600 – 1200
Contribution = 400 units
Profit = Contribution x Margin of Safety
Profit = 400 x 25
Profit = £10,000
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What If . . .
Fixed costs are increased to £50,000?
Variable costs per unit rise?
what will happen the fixed costs line?
which line will be affected?
What if selling price per unit changes?
What 2 lines will not be affected if the selling price changes?
So which line is left?
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What If . . .
Fixed costs are increased to £50,000?
Answer: both the both the fixed costs and total costs lines will move upwards and the break even point will be at a higher level of output than previously.
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What If . . .
Variable costs per unit rise?
What will happen the fixed costs line? Answer: it will stay the same Which line will be affected? Answer: the total cost line. The new total cost line will begin at the same level as the fixed cost line but it rises more steeply than before.
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What If . . .
What if selling price per unit changes?
What 2 lines will not be affected if the selling price changes?
Answer: fixed cost and total cost lines
So which line is left?
Answer: total revenue line
If the Selling Price of the product rises then the total revenue line will still come from 0 but it will be steeper.
The Break-Even Point will be lower. Why is this?
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22. Uses of Break-even Analysis
The main use of break-even analysis is to help in making decision about the level of output to produce and sell in order to produce a particular level of profit.
It can also help the entrepreneur decide whether or not the business will be viable:
If the break-even chart shows that the break-even point is above the output which market research suggests is demanded, then the business should not be run.
It is also very useful for ‘what if’ analysis:
This means that it can be used to work out what would happen to profitability and break-even output if one of the costs changed or if selling price was altered.
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Limitations
Break-even analysis does not indicate what sales are actually likely to be for the product. This is an important limitation as it does not take into consideration what the demand for the product might be.
It assumes that fixed costs are constant. This may not always be the case as some economies of scale may arise.
It assumes average variable costs are constant per unit of output, at least in the range of likely quantities of sales. Again these may change as output levels change.
It assumes that the quantity of goods produced is equal to the quantity of goods sold.
It is sometimes difficult to classify costs as either fixed or variable. Some costs are semi-variable.
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Pupil Activity
Working individually you have thirty minutes to answer the following past paper questions:
2011 Question 3c
2012 Question 3a – d
2014 Question 3d – h
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25. Learning Check Can you:
calculate break-even both graphically and by formulae
explain the significance of the break-even point
distinguish between fixed and variable costs
label a break-even chart
analyse a break-even chart
calculate the margin of safety and explain its significance for a business
Images © thinkstockphotos.co.uk