Accounting - breakeven analysis - Essay Example

a. Breakeven revenue = 325 ? 35 = ?11, 375 Breakeven costs = 6,500 + (325 ? 15) = ?11,375 b. 325 s 2. Margin of safety = expected sales units - breakeven quantity Margin of safety = 480 – 325 = 155 3. Variable Cost increase by 5% Variable cost = 15 x (1+0.05) = 15.75 Fixed Costs increase to 8,000 Average spend per customer increases by 5 Average spend of customer decreases by 10 4. A break-even analysis is conducted in order to understand the relationship between costs, profits and volume. Break-even analysis is very useful for small business as it is very easy to calculate and understand. The break-even analysis helps business managers, particularly those who are involved in a sales-based business, to identify the sales levels at which costs and revenue are equal, thereby neither projecting a profit nor a loss The point at which costs and revenues stand equal is known as the ‘break-even’ point. Thus this analysis becomes quite useful in calculating the profit, loss and the break-even point at different sales levels and also helps managers and analysts to calculate the number of units that need to be sold in order to recover the product’s production costs. Break-even analysis is also very useful for small businesses because it can help the owner or the manager of the business to assess the change in prices of the products being sold or a decrease or increase in the costs which have a direct effect on the breakeven analysis and the profitability of the small business. The break-even analysis is especially useful when deciding order quantities or when making pricing decisions. It allows the firm to be able to set a price which shall help it maximize its margin of safety. Break-even analysis also influences marketing decisions. The firm can set a desired profit level which it hopes to achieve within a particular period and then, with the help of the break-even analysis, identify the number of units that need to be sold in order to achieve the desired level of profitability and direct its marketing efforts in order to achieve these sales levels. Break-even analysis can also help the small business owners in making crucial decision like hiring or firing employees or maybe expanding the business to gain greater market share and help increase the company’s profitability. It can also help the owner in deciding in whether to purchase additional machinery or equipment for the business. Since it projects fixed costs and variable costs separately as well as together, business owners can take the help of this analysis when making critical decisions such as those relating to capital expenditure. Break-even analysis model is very simple to use as the user of this model can easily change the inputs to compute the break-even point. For example if an owner predicts that in the next month the variable cost will increase by 5% so, the owner can easily use this model and see how many more units need to be sold to reach the break-even point for the next month. Similarly is the case with an increase in Rent, which increases the fixed cost. Hence the owner, keeping price and variable costs constant, can predict the number of units needed to be sold if there is an increase in the fixed cost of the business. Alternatively, the break-even analysis can be used to identify rising costs and help the management in deciding how to cut down on variable or fixed costs. There are however a few flaws to the break-even analysis. Break-even analysis is only useful to a certain extent as it assumes that all outputs produced in a period are sold which may not be the case in real-life situations. The break-even model is also very simplistic in nature and considers all inputs constant which may not be the case in the real world. However, the break-even model has some assumptions which make it less accurate in determining the break-even quantity. It assumes that the selling price and the variable cost will remain constant. However, for small businesses this rarely happens. So, we then use the average selling price which reduces its accuracy. Having said this, it still is a beneficial tool for small business to estimate the number of units required for the business to break-even. Works Cited Anon., n.d. Accounting for Management. [Online] Available at: http://www.accountingformanagement.com/Break_even_analysis.htm [Accessed 1 May 2011]. Budnick, F.S., 1993. Applied Mathematics for Business, Economics, and the Social Sciences. McGraw-Hill Book Co. Pakroo, P.H., 2008. The Samll Business Start-Up Kit. Richards, D., n.d. How to Do a Breakeven Analysis. [Online] Available at: http://entrepreneurs.about.com/od/businessplan/a/breakeven.htm [Accessed 1 May 2011]. StartRunGrow, n.d. The advantages and disadvantages. [Online] Available at: http://www.startrungrow.com/information/business/1,2327,2,the-advantages-and-disadvantages.htm [Accessed 1 May 2011]. Read More