What is Break-Even Analysis?

Break-Even Analysis quantifies the total number of units that must be sold, or the minimum sales threshold, for revenue to equal total costs.

Practitioners conduct a break-even analysis to determine the break-even point (BEP)—the inflection point where total revenue offsets total costs—resulting in neither a profit nor the incurrence of a loss.

The incremental revenue generated past a company’s break-even point (BEP) converts into profit since total costs—comprised of fixed and variable costs—have been covered (i.e. net positive).

Generate Key Takeaways

  • Break-even analysis compares a company's fixed costs to the net profit earned per incremental unit produced and sold.
  • Break-even analysis is a method to determine the number of units required to be sold or the dollar amount of revenue needed to be generated to reach the break-even point (BEP).
  • The break-even point (BEP) is the inflection point at which total revenue is equal to total costs (i.e. the sum of fixed and variable costs).
  • The break-even point (BEP) is calculated by dividing a company’s total fixed costs by the difference between the selling price per unit and the variable cost per unit.
  • The practical use-case of performing a break-even analysis is to determine the necessary units that must be sold (or revenue threshold) that must be attained to start generating a profit.
  • The higher the contribution margin, the lower the break-even point (BEP), and vice versa.

How Does Break-Even Analysis Work?

By analyzing the implied baseline in operating performance, where revenue is equal to costs, businesses can apply those insights in their internal planning to guide their strategic decisions.

For instance, the management team of a company could set a minimum sales target for each quarter to ensure the break-even point ( BEP) is met.

The starting point is to determine the break-even point (BEP) and implement adjustments as deemed necessary to ensure the minimum threshold is met, or else it is only a matter of time before the business becomes insolvent.

How to Conduct Break-Even Analysis

In order to perform a break-even analysis, there are two pieces of information necessary:

  • Fixed Costs ➝ Fixed costs refer to the expenses that do not fluctuate, irrespective of the production volume and revenue performance.
  • Variable Costs ➝ Variable costs, on the other hand, are expenses that are directly tied to the level of production and sales generated in a given period.

The contribution margin represents the portion of a company’s revenue allocated to cover the incurred fixed costs:

Contribution Margin = Selling Price Per Unit – Variable Cost Per Unit

Step-by-step Process to Conduct a Break-Even Analysis:

  1. Step 1 ➝ Quantify Cost Structure (Fixed Costs and Variable Costs)
  2. Step 2 ➝ Estimate the Contribution Margin
  3. Step 3 ➝ Calculate the Break-Even Point (Revenue = Costs)
  4. Step 4 ➝ Perform Sensitivity Analysis (“What-If”)

Break-Even Analysis Formula

The break-even point (BEP) is calculated by dividing the fixed costs by the contribution margin:

Break-Even Point (Units) = Fixed Costs ÷ (Selling Price per Unit – Variable Cost per Unit)

How Does Contribution Margin Impact Break-Even Analysis?

The contribution margin impacts how quickly a company covers its fixed costs and generates a profit. Products with a higher contribution margin are more profitable as they cover fixed costs more quickly.

Break-Even Analysis Calculator — Excel Template

1. Break-Even Analysis Calculation Example

Suppose we’re tasked with conducting a break-even analysis of a company with the following cost structure and unit economics:

  • Fixed Costs = $2 million
  • Variable Cost per Unit = $2.50
  • Average Selling Price (ASP) = $6.50

Calculation:

  1. Contribution Margin = $6.50 — $2.50 = $4.00
  2. Break-Even Point (Units) = $2 million ÷ ($6.50 — $2.50) = 500,000
  3. Break-Even Point (Dollars) = $2 million ÷ 61.5% = $3,250,000

2. Break-Even Point Sensitivity Analysis

In the next section, we’ll perform a sensitivity analysis to analyze the net profit of the company under different assumptions.”}