Break-even Point

Contribution

Sale unit price is constant and variable cost is also constant therefore each unit sold result in a unit profit which is known as contribution and the formula of calculating unit contribution.

Contribution = Sales – Variable cost

Conceptually the fixed cost is a period cost and therefore we must generate enough contribution to cover fixed cost. This situation where we able to cover over fixed cost are known as break-even point. This point is also known as no profit no loss situation.

Example of Break even

Sale Price = 20

Variable Cost = 16

Fixed Cost = 40,000

What is break-even point?

Solution

Unit contribution = 20-16

Unit contribution = 4

Required level =                      fixed Cost/unit Contribution

                          =          40,000/4

                         =           10,000 units

Desired Level Profit

The concept of break even may be further extended to get the desired level of profit and the formula is amended as below

Desired level of profit = (Fixed Cost + Desired Level of profit)/unit contribution

Example of Desired level of Profit

Example of Break even

Sale Price = 20

Variable Cost = 16

Fixed Cost = 40,000

Desired level of profit = 70,000

What is required contribution?

Solution

Unit Contribution = 20-16

                              = 4

Required level of contribution:    (40,000+70,000)/4

                                                         = 110,000/4

                                                         = 27,500 units