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BREAK-EVEN ANALYSIS

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COST OF PROJECT

Cost of Project represents the total of all items of outlay associated with a project which are supported by long-term funds.

It is the sum of the outlays on: Land and site development Buildings and civil works Plant and machinery Technical know-how and engineering fees Expenses on foreign technicians and training of Indian

technicians abroad Miscellaneous fixed assets Preliminary and capital issue expenses Pre-operative expenses Margin money for working capital Initial cash losses

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Land and Site Development

Cost of Land and site development includes: Basic cost of land including conveyance and

other allied charges Premium payable on leasehold and

conveyance charges Cost of laying approach roads and internal

roads Cost of tube wells

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Buildings and Civil Works

It covers: Buildings for the main plant and equipment Buildings for auxiliary services like steam supply,

workshops, laboratory, water supply etc. Godowns, warehouses and open yard facilities Non-factory buildings like canteen, guest houses, time

office, excise house, etc. Quarters for essential staff Garages Sewers, drainage, etc. Other civil engineering works

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Plant and Machinery

Cost of plant and machinery consists of: Cost of imported machinery

FOB (free on board) value Import duty Clearing, loading, unloading and transportation

charges Cost of indigenous machinery

FOR (free on rail) cost Sales tax, octroi and other taxes Railway freight and transport charges to the site

Cost of stores and spares Foundation and installation charges

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Technical Know-How and Engineering Fees

Amount payable to technical consultants or collaborators from India and/or abroad for their advice and help in various technical matters.

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Expenses on Foreign Technicians and Training of Indian Technicians Abroad

It includes: Salaries and allowances payable to foreign

technicians Expenses on their travel , boarding and lodging Expenses on Indian technicians who require

training abroad

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Miscellaneous Fixed Assets

Fixed assets and machinery which are not part of the direct manufacturing process

It includes: Furniture Office machinery and equipment Tools Vehicles Transformers Laboratory equipment, etc.

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Preliminary and Capital Issue Expenses

Preliminary expenses: Expenses incurred for identifying the project,

conducting the market survey, preparing the feasibility report, drafting the memorandum and articles of association and incorporating the company.

Capital issue expenses: Expenses incurred on raising of capital from

the public.

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Pre-Operative Expenses

Establishment expenses Rent, rates and taxes Travelling expenses Interest and commitment charges on

borrowings Insurance charges

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Margin Money for Working Capital

The principal support of working capital is provided by commercial banks and trade creditors.

A certain part of the working capital requirement has to come from long-term sources of finance.

It is referred to as the ‘margin money for working capital’.

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Initial Cash Losses

Most of the projects incur cash losses in the initial years.

Promoters typically do not disclose the initial cash losses.

A provision should be made for the estimated initial cash losses in the project cost.

Failure to do so affects the liquidity position and impairs the operations.

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COST OF PRODUCTION

Components of cost of production are:

1. Material cost

2. Utilities cost

3. Labour cost

4. Factory overhead cost

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COST OF PRODUCTION

Material cost : It comprises of the cost of raw materials, chemicals,

components and consumable stores required for production.

It is a function of the quantities in which these materials are required and the prices payable for them.

Utilities cost : It consists of power, water and fuel

Labour cost : Cost of all the manpower employed in the factory. It is a function of the number of employees and the rate

of remuneration. Factory overhead cost :

Expenses on repairs and maintenance, rent, taxes, insurance on factory assets, etc.

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BREAK-EVEN ANALYSIS

Break-even analysis determines how much should be sold to ensure that the project does not lose money

Sales revenues and total costs are analysed for each different level of production

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BREAK-EVEN POINT

Minimum quantity at which loss is avoided

Point where total revenue equals to total costs

TR = TC

No profit, no loss situation

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COSTS

Total cost includes fixed cost and variable cost Fixed costs- Costs that do not change in

response to changes in sales volume. executive salaries lease payments depreciation

Variable costs- Costs that change in response to changes in sales volume.

hourly wages raw material’s cost

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COMPUTING BREAK-EVEN POINT

The break-even point can be calculated by using the following equation:

BEP = Fixed Costs __ Contribution Margin

= Fixed Costs______________________ Selling price per unit – Variable Cost per unit

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CONTRIBUTION MARGIN

The contribution margin is the amount of money that is available from the sale of each unit to cover the fixed costs of the firm.

Once those fixed costs are covered, any further units that are sold will result in profit.

Contribution Margin=Selling Price-Variable Cost

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CONTRIBUTION MARGIN

The following diagram illustrates the definition of contribution:

Contribution

Variable costs

Sales revenue

Profit

Fixed costs

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EXAMPLE A teddy bear manufacturing company sells its bears to

retailers for an average price of Rs.180. The variable costs are Rs.30 per bear. The company’s fixed costs are Rs.1,50,000.

To calculate the break-even point, we first need to find the contribution margin:

Contribution Margin =Selling Price – Variable Costs=Rs.180 – Rs.30 =Rs.150

We can now calculate the break-even point:

BEP = Fixed Costs Contribution Margin= Rs.150,000 Rs.150= 1,000 bears

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BREAK-EVEN CHART

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TYPES OF BREAK-EVEN ANALYSIS

Break-even analysis can be explained in two ways:

Accounting Break-Even Analysis

Financial Break-Even Analysis

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