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Break Even Point

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Sareng Gopal
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8 views

Break Even Point

Ddfg

Uploaded by

Sareng Gopal
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Break-Even Analysis

This method is used to analyse the relationship


between Total Cost, Total Revenue and profit of an
organisation at different levels of output.
Since it gives profit at different levels of projected sales,
it is used as an important tool of managerial decision
making.
The most important aspect of Break-Even analysis is
identifying the Break-Even Point. It is the point at which
Total Revenue of a firm equals Total Cost.(TC=TR).
(It is the point at which there is no profit or loss for the
firm.)
2. Graphic Method

Graphical method construct


the Break-Even chart. This method is
based on the assumption that cost
and revenue functions of the firm
are linear. ie, TR curve and TC curves
are straight lines. TR and TC are
measured along the y-axis and
output along the X-axis.
At point E the TR curve
intersects the TC curve. Hence, E is
the Break-Even point where the firm
produce Qb level of output. The gap
between the TC curve and the TR
curve beyond the Qb level of output
shows profit and the gap below this
level of output shows loss. At the
Break-Even point there is no loss or
profit.
1.Algebraic Method
Let ‘P’ be the price of the product and ‘Qb’ he
break-even level of output. At the break-even point
TR equals TC.
TR=TC (TR=PxQb and TC=TFC+TVC)
PxQb =TFC+TVC (TVC=AVCxQb)
PxQb=TFC+AVCxQb
PxQb-AVCxQb=TFC
Qb=TFC/P-AVC
PV Ratio(Profit Volume Ratio)
P/V Ratio is the ratio of contribution to
sales which indicates the contribution earned
w.r.t one rupee of sales. If per unit sales price
and variable cost are constant then P/V Ratio
will be constant at all levels of output. A
change in fixed cost does not affect P/V Ratio.
PV Ratio= Contribution/Sales
{Contribution= Sales(S)-Variable Cost(V)}
PV Ratio=S-V/S
P V Ratio can also be shown in the form of
percentage by multiplying by 100.
If selling price of a product is Rs.20 and variable cost is
Rs.15 per unit, then
PV Ratio=S-V/S x 100
=20-15/20 x 100
=5/20x100
=.25 x 100
=25%
If we take Total Revenue and Total Variable Cost to estimate
the ratio it will not make any difference.
In the above example, for every Rs.100 sales,
contribution of Rs.25 is made towards meeting the fixed
expenses and then the profit.
Using PV Ratio,Break-even point(BEP) also can be
estimated.

BEP=TFC/PV Ratio
or

BEP=TFC x S/S-V
Margin of Safety
Margin of Safety is the sales beyond Break-even point.
Margin of Safety= Sales-Break Even sales
If Margin of Safety is large, it indicates that BEP
is much below the actual sales, that means business
is in a sound condition and reduction in sales will not
be a problem for the business. On the other hand, if
margin of safety is low, any loss of sales may be a
serious matter. Thus, efforts need to be made to
reduce fixed costs, variable costs or increasing the
selling price or sales volume to improve contribution.
Uses of Break-Even analysis
1.It helps in the determination of selling price
which will give the desired profits.
2.It helps in the fixation of sales volume to get a
desired level of revenue.
3.It helps in making inter-firm comparison of
profitability.
4.It helps in determination of costs, revenue and
profit at various levels of output.
5.It helps in Managerial decision making.
Limitations of Break-Even Analysis
1.Break-even analysis is based on the assumption that all costs ans
expenses can be clearly separated into fixed and variable components.
In practice, however, it may not be possible to achieve a clear-cut
division of costs into fixed and variable types.
2.It assumes that fixed costs remain constant at all levels of activity.
However, fixed costs tend to vary beyond a certain level of activity.
3. It assumes that variable costs vary proportionately with the volume
of output. In practice, it may not be varying in direct proportions.
4.There is no provision for changes in selling price.
5.It is based on the assumptions that whatever is produced is sold. This
may not happen.
6.It assumes that the business conditions may not change which is not
true.

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