BREAK EVEN ANALYSIS
Break Even Analysis is the study of cost-volume of production
profit (CVP) relationship.
Profit mainly depends upon three factors-
• Cost of production
• Amount of input
• Sales revenue
Cost of production is sum of two costs: variable cost and fixed
cost.
Fixed cost are assumed to be constant at all levels of output. e.g.
Expenditure on permanent labours and overheads
(Administrative cost).
Variable cost increases with the increase of output of
production i.e. (material cost , inventory cost etc.)
One of the technique to study the total cost , total revenue and
output relationship is known as Break Even Analysis.
Hence, Break Even Analysis is the study of cost, volume of
production and profit relationship.
It is an analysis to study the point where neither profit nor loss is
occurred. This pint is known as Break Even Point. This break
Even Analysis can be done in two ways:
1. Algebraic method
2. Graphical method
But, usually a Break Even Analysis is done graphically.
Importance of Break Even Analysis
It helps in solving the following types of
problems:
• What volume of sales will be necessary to
cover a reasonable return on capital
Investment
• Computing costs and revenues for all possible
volumes of output.
• To find the price of an article to give the
desired profit.
• To determine the variable cost per unit.
ASSUMPTIONS IN BREAK EVEN ANALYSIS
1. The total cost of production is comprised of fixed
cost and variable cost.
2. Fixed cost remains constant i.e. it is independent of
the quantity produced , it includes salaries , rent of
buildings, depreciation of plants and equipment's
etc.
3. Variable cost is directly proportional to the
volume of production.
4. Selling price doesn’t change with the volume
of change.
5. Total sales income is PX Q where, P is selling price
and Q is the quantity produced.
Break Even Chart
It was invented by Walter Rautenstrauch , an Industrial
Engineer and professor of Columbia University in 1930.
It is a graphical representation of relationship between
various costs and sales revenue at a given time. It
determines the Break Even Point.
Functions of Break Even Chart
• It is an aid to management and it depicts
a clearer view of the status of the
business.
• It is a graphic representation of the
economic position of the business.
• It shows the profits and losses at various
output level.
• It shows the relationship between Marginal
Cost and fixed Cost.
• It indicates No profit, No loss situation
and margin of safety.
• It can help by making specific plans to effect
profit through the control of expenses.
• Volume of production , number of units produced is
plotted along the x-axis (Horizontal axis).
• The fixed cost is represented by straight line parallel to
the horizontal axis.
• The cost and sales income (sales revenue) are plotted along y-
axis(vertical axis).
• The sales income line passes through the origin.
• The point of intersection of sales income line and the
total cost line represent the break even point.
• Shaded area between the total cost line and sales income/
revenue line on the left hand side of BEP indicates loss and
the right hand side of the BEP indicates profit.
Margin of Safety: It is the distance between the BEP and
the output being produced at a particle variable cost line. If
this distance is large,the profit will be large even there is a
drop in production and vice-versa.
𝑆𝑎𝑙𝑒𝑠−𝑆𝑎𝑙𝑒𝑠 𝑎𝑡 𝐵𝐸𝑃
Margin of Safety = X 100
𝑆𝑎𝑙𝑒𝑠
𝑃𝑟𝑜𝑓𝑖𝑡
𝑋 𝑠𝑎𝑙𝑒𝑠
𝑆𝑎𝑙𝑒𝑠− 𝑣𝑎𝑟𝑖𝑎𝑏𝑙
𝑒 𝐶𝑜𝑠𝑡
Angle of Incidence( θ): This is the angle at which sales
revenue cuts the total cost line. A larger θ indicates more
profit at a higher rate. A larger angle of Incidence at a high
margin of safety marks the extremely favorable business
position.
Profit Volume Ratio(P/V): It measure the profitability in
relation to sales. It determines the BEP. Can be increased by
increasing the sales price and reducing the variable cost.
𝑪𝒐𝒏𝒕𝒓𝒊𝒃𝒊𝒕𝒊𝒐𝒏 𝑿 𝟏𝟎𝟎 = 𝑰𝒏𝒄𝒓𝒆𝒂𝒔𝒆 𝒊𝒏 𝑷𝒓𝒐𝒇𝒊𝒕 𝑿𝟏𝟎𝟎
P/V Ratio = 𝑺𝒂𝒍𝒆𝒔 𝑰𝒏𝒄𝒓𝒆𝒂𝒔𝒆 𝒊𝒏 𝑺𝒂𝒍𝒆𝒔
𝑻𝒐𝒕𝒂𝒍 𝑺𝒂𝒍𝒆𝒔−𝑻𝒐𝒕𝒂𝒍 𝑺
𝑽𝒂𝒓𝒊𝒂𝒃𝒍𝒆 𝑪𝒐𝒔𝒕 𝑿 𝒂
𝟏𝟎𝟎
𝒍
= 𝒆
𝑻
𝒐 𝒔
𝒕
𝑭𝒊𝒙𝒆𝒅 𝑪𝒐𝒔𝒕𝒔+𝑷𝒓𝒐𝒇𝒊𝒕 𝑿
𝒂
𝒍 𝟏𝟎𝟎
𝑺𝒂𝒍𝒆𝒔 𝑺−𝑽
𝑿 𝟏𝟎𝟎
𝑷𝒓𝒊𝒄𝒆 𝒑𝒆𝒓 𝑼𝒏𝒊𝒕 −𝑪𝒐𝒔𝒕
𝒑𝒆𝒓 𝑼𝒏𝒊𝒕 𝑿 𝟏𝟎𝟎 𝑺
𝑷𝒓𝒊𝒄𝒆 𝒑𝒆𝒓 𝑼𝒏𝒊𝒕
