4.4.3 Break-even analysis (3)
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1.
The break-even chart for a company, 'Tech Solutions', is presented below.
a) State the fixed costs and variable costs for Tech Solutions.
b) Calculate the profit margin percentage for Tech Solutions.
c) Explain how Tech Solutions could reduce its break-even point.
a) Fixed Costs: £30,000; Variable Cost: £15 per unit.
b) The total revenue at the break-even point is £30,000. The total number of units sold at the break-even point is 2,000. Therefore, the profit margin percentage is calculated as: ((Total Revenue - Total Variable Costs) / Total Revenue) * 100 = ((£30,000 - (£15 x 2,000)) / £30,000) * 100 = ( £0 / £30,000) * 100 = 0%. This means that at the break-even point, the company is neither making a profit nor a loss.
c) Tech Solutions could reduce its break-even point by:
- Reducing fixed costs: This could involve renegotiating rent, reducing administrative expenses, or finding cheaper suppliers.
- Reducing variable costs: This could involve finding cheaper materials, improving production efficiency, or negotiating better prices with suppliers.
- Increasing the selling price: If demand is elastic, a small increase in price could lead to a significant increase in sales volume.
2.
A small bakery currently sells cakes for £8 each. The variable cost per cake is £3 and the fixed costs are £200 per week. Calculate the bakery's break-even point in units and pounds. Explain how this break-even point can be useful for the bakery owner when considering increasing the selling price of cakes.
1. Calculate the break-even point in units:
Break-even point (units) = Fixed Costs / (Selling Price per Unit - Variable Cost per Unit)
Break-even point (units) = £200 / (£8 - £3)
Break-even point (units) = £200 / £5
Break-even point (units) = 40 units
2. Calculate the break-even point in pounds:
Break-even point (pounds) = Break-even point (units) x Selling Price per Unit
Break-even point (pounds) = 40 units x £8/unit
Break-even point (pounds) = £320
3. How the break-even point is useful for increasing the selling price:
- The break-even point shows the minimum number of cakes the bakery needs to sell to cover all its costs.
- If the bakery owner wants to increase the selling price, the break-even point will also increase.
- The owner can use this information to assess the potential profitability of a price increase. They can calculate the number of cakes they need to sell at the new price to achieve a profit target.
- If the new break-even point is achievable, the price increase is likely to be beneficial. If the new break-even point is too high, the price increase may not be worthwhile.
3.
Question 3
A small business has fixed costs of £2,000 per month. The cost to produce each item is £3 and the selling price is £7. Calculate the break-even output and explain what this means for the business.
Answer:
Calculation:
Break-Even Output = Fixed Costs / (Selling Price per Unit - Variable Cost per Unit)
In this case:
- Fixed Costs = £2,000
- Selling Price per Unit = £7
- Variable Cost per Unit = £3
Therefore:
Break-Even Output = £2,000 / (£7 - £3) = £2,000 / £4 = 500
The break-even output is 500 units.
What this means for the business:
- Profitability: The business will not make a profit or a loss if it sells 500 units.
- Sales Target: The business needs to sell at least 500 units each month to cover all its costs.
- Risk: If the business consistently sells fewer than 500 units, it will incur a loss.
- Decision Making: This information is crucial for making decisions about production levels, pricing strategies, and overall business viability. The business needs to focus on selling more than 500 units to become profitable.