Monitoring Your Break Even Point Each Month
If your business has been losing money or you’re actively in a business turnaround process, I believe it’s important to calculate your break even point with each set of monthly management accounts.
You can do it on a month by month basis but, like a lot of financial statistics, it can go up and down and make it hard to see the trend.
Using Moving Annual Calculations
One option I like in practice is a calculate moving annual statistic for Break Even Points, partly because it’s normal to think in terms of performance in a year.
i.e. the July moving annual total is calculated from the August in the previous year through to this July.
Then the August moving annual total becomes September last year to August this year.
This will smooth out the ups and downs, generate a trend and help you to get a better feel for your business and more control over it.
Since the calculations are:
Break Even Point = Fixed Costs divided by Contribution per Unit
Contribution per Unit = Total Contribution divided by Units Sold
you will need to track on a moving annual basis
What To Look For
You need to look out for a consistently rising trend as a sign of potential danger.
For example (Moving Annual Break Even Point = MABEP)
January 375 (Fixed Costs £67,500, contribution per unit £180)
In just six months we’ve seen a 22.9% increase in the Break Even Point.
That might mean Fixed Costs have increased from £67,500 to £82,980.
Or contribution per unit has fallen from £180 to £146.42.
Or some combination of both moving but it’s not good news.
It’s a big signal that you’ve got to take another look at cutting costs from your fixed costs and also investigate why contribution is falling.
Reducing selling prices to counter aggressive moves from a competitor may be one reason so you need to become familiar with how to respond in ways that let your competitors know their actions will not be successful and will hurt them, not benefit them.
Alternatively, you may be experiencing a rise in input costs and you can either shop around for better deals, if if it’s an issue for the trade in general, look to pass the increase on to customers in the form of higher prices.
The Downside Of Moving Annual Totals
The advantage or moving annual averages is that they smooth out results to show a trend.
The downside is that they can be too slow to show a sudden deterioration in a number.
To some extent, you should be able to see what’s happening from the fixed costs and contribution per unit since any movement in those which is confirmed the following month indicates something is happening.
A compromise some businesses use is to use moving quarterly statistics built up over the last three months. This will respond faster than the moving annual statistics if there has been a permanent change but won’t jag up and down as much as calculating break even points just on the month’s numbers.
Return to P1M3 How Profit Is Calculated
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