Break Even AnalysisBreak Even Analysis

Presented byPresented by

Francis PintoFrancis Pinto 1717

Shilpa KulkarniShilpa Kulkarni 3131

Pradnya MorjePradnya Morje3636

Amol RaneAmol Rane 4343

Tushar WadivkarTushar Wadivkar 5757

Aditya DivadkarAditya Divadkar 5858

Costs are of two typesCosts are of two types

Total cost = Variable cost + Fixed costTotal cost = Variable cost + Fixed cost

Variable costVariable cost Fixed cost Fixed cost

DirectDirect Common / indirect Common / indirect

Varies with activity levelVaries with activity level Same at all activity level Same at all activity level

Recovered firstRecovered first Contribution after recovery ofContribution after recovery of

Variable CostVariable Cost

Selling price recovers variable cost fully and Selling price recovers variable cost fully and fixed cost partly. fixed cost partly.

What is Break Even Analysis ?What is Break Even Analysis ?

Actual profit starts only after the fixed Actual profit starts only after the fixed cost is recovered fully from the cost is recovered fully from the contribution. contribution.

Once the fixed cost is recovered fully, the Once the fixed cost is recovered fully, the contribution then contributes towards the contribution then contributes towards the profit. profit.

The situation where the fixed cost is The situation where the fixed cost is recovered fully is region of no profit no recovered fully is region of no profit no loss. It is known as Break even point. The loss. It is known as Break even point. The actual profit starts only after the Break actual profit starts only after the Break even is reached. even is reached.

Break Even Chart

BEP

Selling price

Total cost

Fixed Cost

FCBEP = ----------- SP - VC

| | | | | | |100 200 300 400 500 600 700

Activity level X

200 -

175 -

150 -

125 -

100 -

75 -

50 -

25 -

(0,0)

Cost / Sales in Rs

Y

How does Break Even Analysis Helps Manager ?How does Break Even Analysis Helps Manager ?

To decide sales volume needed to attain target To decide sales volume needed to attain target profitprofit

Change in selling price decisionChange in selling price decision

Decision to expand the capacityDecision to expand the capacity

Product drop decisionProduct drop decision

To study effect of alternative pricesTo study effect of alternative prices

Alternate prices

| | | | |100 200 300 400 500

BP 3

200 -

175 -

150 -

125 -

100 -

75 -

50 -

25 -

(0,0)

SP 3

Total cost

Fixed Cost

Cost / Sales in Rs

Activity level

SP 2

SP 1

BP 2BP 1

X

Y

Drawbacks of Break Even AnalysisDrawbacks of Break Even Analysis

Product cycleProduct cycle Technology absolanceTechnology absolance Cots , revenue relationship is not linearCots , revenue relationship is not linear

Factors that affect Break EvenFactors that affect Break Even

Change in government policyChange in government policy Change market scenarioChange market scenario Change in customer perceptionChange in customer perception Political influences etc.Political influences etc. Change in economyChange in economy

Need for new modelNeed for new model

The break even analysis done in this The break even analysis done in this way is known as Accountant’s break way is known as Accountant’s break even analysis as no economic and other even analysis as no economic and other factors are taken into consideration.factors are taken into consideration.

Organisations generally work only on Organisations generally work only on the basis of Accountant’s break even the basis of Accountant’s break even analysis and suffer in long run.analysis and suffer in long run.

Economist’s model of Break-Even AnalysisEconomist’s model of Break-Even Analysis

The Economist’s model of break-even The Economist’s model of break-even analysis assumes that costs and analysis assumes that costs and revenues are curvilinear. The revenue revenues are curvilinear. The revenue curve is expected to indicate that the curve is expected to indicate that the firm is able to sell increasing quantities firm is able to sell increasing quantities only by reducing the prices. only by reducing the prices.

Economist’s model of Break-Even Analysis

Fixed Cost

B 1

B 2

LOSS

LOSS

Total Cost

Selling price

| | | | |100 200 300 400 500

200 -

175 -

150 -

125 -

100 -

75 -

50 -

25 -

(0,0)

X

Cost / Sales in Rs

Activity level

Y

Optimum Level

PROFIT

How it differs from accountant’s modelHow it differs from accountant’s model

Economist’s treat costs and revenue as Economist’s treat costs and revenue as curvilinear whereas accountants treat them as curvilinear whereas accountants treat them as linearlinear

Economist’s break even chart indicates two break Economist’s break even chart indicates two break even points whereas accountant’s break even even points whereas accountant’s break even chart shows only once, which indicates that after chart shows only once, which indicates that after reaching the break even the further sell will reaching the break even the further sell will always generate profit, which is not true.always generate profit, which is not true.

From the profit range shown in the economist’s From the profit range shown in the economist’s break-even chart, an optimum level of operation break-even chart, an optimum level of operation can be found This is not possible from an can be found This is not possible from an accountant’s break even chart.accountant’s break even chart.

Case studyCase study

Case # 1Case # 1 Fabric onlineFabric online

Case # 2Case # 2 Tata IndicaTata Indica

Case # 3Case # 3 IntelIntel

Case # 4Case # 4 Reliance Infocom Reliance Infocom

Case studyCase study

Case # 1Case # 1 Fabric onlineFabric online

Interior viewInterior view

Interior view is a traditional chain of retail store, Interior view is a traditional chain of retail store, run by Judy Williams, at Western US.run by Judy Williams, at Western US.

The shop is featuring home décor, fabrics, The shop is featuring home décor, fabrics, accessories and antique.accessories and antique.

The company developed a website The company developed a website www.fabric.online.comwww.fabric.online.com, with a view extending the , with a view extending the reach of the store to those outside the local reach of the store to those outside the local market and add to the store to the retail base.market and add to the store to the retail base.

The sale for the year 2002 was : The sale for the year 2002 was :

Initially Judi was very happy that her sale was Initially Judi was very happy that her sale was increased by $ 20,050 due to the online trading, increased by $ 20,050 due to the online trading, which inturn increased the Gross margin by $ which inturn increased the Gross margin by $ 9,905. 9,905.

Particulars FY 2002

Online Sale due to website $20,050  

Direct cost of Sale $10,145  

Gross Margin   $9,905

Actual cost / revenue of website saleActual cost / revenue of website saleParticulars   FY 2002

Gross Margin   $9,905

Variable Cost ( 150 units )    

Delivery Cost $1,500  

Packaging & misc. $1,200  

Total Variable cost   $2,700

Contribution towards fixed cost   $7,205

Fixed Cost    

Website Expenses    

Website Development $2,850  

Website Infrastructure $2,134  

Advertising / Promotion $1,200  

Equipment Expenses $600  

Website maintenance $300  

Other $500  

Total Fixed cost ( break even sale )   $7,584

Profit / Loss   ($379)

So the company’s aim was to increase their sale So the company’s aim was to increase their sale volumevolume

Demographic, psycholographic and behavioural Demographic, psycholographic and behavioural characteristics were observed by the company, it characteristics were observed by the company, it was observed that :was observed that :

Professional Youngsters are expected to be the Professional Youngsters are expected to be the most likely of the targeted segment.most likely of the targeted segment.

The online fabric shoppers most often find the The online fabric shoppers most often find the site through search engines.site through search engines.

The internet learners represents all of the The internet learners represents all of the targeted segments targeted segments

The online sale was increased from 150 units to The online sale was increased from 150 units to almost 250 units . almost 250 units .

The net result shown in 2003, as compared The net result shown in 2003, as compared to 2002 was as under :to 2002 was as under :

Particulars  FY 2002

 FY 2003

Online Sale due to website

$20,050   $30,350  

Direct cost of Sale $10,145   $15,150  

Gross Margin   $9,905   $15,200

Considering the fixed and variable cost of the online Considering the fixed and variable cost of the online trading, the actual working is :trading, the actual working is :

Particulars FY 2002 FY 2003

Gross Margin   $9,905   $15,200

Variable Cost ( 150 units ) ( 250 units )

Delivery Cost $1,500   $2,500  

Packaging & misc. $1,200   $1,500  

Total Variable cost   $2,700   $4,000

Contribution towards fixed cost   $7,205   $11,200

Fixed Cost        

Website Expenses        

Website Development $2,850   $3,350  

Website Infrastructure $2,134   $600  

Advertising / Promotion $1,200   $2,500  

Equipment Expenses $600      

Website maintenance $300   $300  

Other $500   $500  

Total Fixed cost ( break even sale )   $7,584   $7,250

Profit / Loss   ($379)   $3,950

Case studyCase study

Case # 2Case # 2

TATA IndicaTATA Indica

Introduction

Available in standard and luxury versions Dec.1998 Tata Indica Launched Designed with assistance from IDEA and LE

MOTEUR Telco has produced this engineering marvel

in a record time of 31 months 1700 crore factory Built in a 168 acre plot

Market Position

Tata is positioned the Indica head on with Maruti 800

At the Time of Launch Telco’s main steam business i.e. commercial vehicle segment passing through a cruelest period

Breakeven AnalysisBreakeven Analysis

Break Even estimated in December 1998 was Break Even estimated in December 1998 was 60,000 cars.60,000 cars.

In May 2000 break even quantity revised to In May 2000 break even quantity revised to 90,000 as Telco’s operating profit margin fell 90,000 as Telco’s operating profit margin fell 2.4% to 6%.2.4% to 6%.

Cost saving measures adopted Efforts to improve Working capital.Efforts to improve Working capital. Borrowings Scale down by 441 crore to 3,004 Borrowings Scale down by 441 crore to 3,004

crore crore

Break Even Point

Launched in 1998 Break even achieved in the Ist quarter of 2001-2002

Break even point down from 60000 cars to 53000 cars.

Launched of V2 diesel and petrol version in 2001

Factors responsible for B.E.P

Case studyCase study

Case # 3Case # 3 Intel CorporationIntel Corporation

Intel CorporationIntel Corporation

Intel Corporation, founded in 1968 is a Intel Corporation, founded in 1968 is a leading company at US has around 450 leading company at US has around 450 products and services in computer software & products and services in computer software & hardware . Which includes wide range from hardware . Which includes wide range from desktop components, notebook components, desktop components, notebook components, server and workstation components, flash server and workstation components, flash memory, networking & communications memory, networking & communications design components & network connectivity, design components & network connectivity, wireless components & software services wireless components & software services etc.etc.

In the year 1992-93 their annual sale and cost In the year 1992-93 their annual sale and cost

structurestructure   1992-93

  ( in US $ ) ( in US $ )

Annual sale 17,000  

Annual fixed cost 5,160,000  

Annual Inspection fixed cost 40,000  

Total Fixed cost   5,200,000

Variable cost / unit 200  

Variable inspection cost / unit 15  

Total variable   215

Selling price / unit   665

Contribution / unit   440

BEP in units ( FC / contr. )   11,818

BEP in Rs. 7858970  

Total contribution 7480000  

Operating Profit   2280000

Total sale 11560000  

Profit Volume ratio   20%

For the year 1993-94 and the estimated cost / revenue statement was as under For the year 1993-94 and the estimated cost / revenue statement was as under

  1993-94

  ( in US $ ) ( in US $ )

Annual sale 25,000  

Annual fixed cost 5,180,000  

Annual Inspection fixed cost 40,000  

Total Fixed cost   5,220,000

Variable cost / unit 210  

Variable inspection cost / unit 20  

Total variable   230

Selling price / unit   680

Contribution / unit   450

BEP in units ( FC / contr. )   11,600

BEP in Rs. 7888000  

Total contribution 11250000  

Operating Profit   6,030,000

Total sale 17000000  

Profit Volume ratio   34%

The working of inspection cost was as The working of inspection cost was as under under

with initial alternate   with new alternate  

  in US $   in US $

       

Fixed cost of inspection 40,000 Fixed cost of inspection

160,000

Variable cost of inspection / unit

20 Variable cost of inspection / unit

2

No. of units 25,000 No. of units 25,000

Total variable cost 500,000 Total variable cost 50,000

Total inspection cost 540,000 Total inspection cost 210,000

Difference $ 330,000      

 

The comparative working of estimated and actual was as The comparative working of estimated and actual was as under :under :

  1993-94 [ estimated ] 1993-94 [ actual ]

  Rs. ( in US $ )

Rs. ( in US $ ) Rs. ( in US $ )

Rs. ( in US $ )

Annual sale 25,000   25,000  

Annual fixed cost 5,180,000   5,180,000  

Annual Inspection fixed cost 40,000   160,000  

Total Fixed cost   5,220,000   5,340,000

Variable cost / unit 210   210  

Variable inspection cost / unit 20   2  

Total variable   230   212

Selling price / unit   680   680

Contribution / unit   450   468

BEP in units ( FC / contr. )   11,600   11,496

BEP in Rs. 7888000   7817280  

Total contribution 11250000   11700000  

Operating Profit   6,030,000   6,360,000

Total sale 17000000   17000000  

Profit Volume ratio   34%   37%

Benefits :Benefits :

Break even was reached earlyBreak even was reached early

PV ratio was increased to 37%PV ratio was increased to 37%

Lower inspection cost which indicates Lower inspection cost which indicates quality improvement quality improvement

Case studyCase study

Case # 4Case # 4

Reliance InfocommReliance Infocomm

Reliance Industries is the Reliance Industries is the largest petrochemical largest petrochemical

and petroleum producer in Indiaand petroleum producer in India and is poised for major and is poised for major growth.growth.

The Reliance Empire

Amazing Facts about Reliance InfocommAmazing Facts about Reliance Infocomm

A A 15,000 cr. project15,000 cr. project that kicked off on 28 that kicked off on 28 thth Dec. Dec.

Most popular technology used : Most popular technology used : CDMACDMA

Plans to offer full bouquet of voice, data, image, Plans to offer full bouquet of voice, data, image, value-added services and value-added services and high quality end-to-high quality end-to-end connectivity on nationwide basisend connectivity on nationwide basis..

Provides premium to the Reliance Ind. Ltd. StockProvides premium to the Reliance Ind. Ltd. Stock

More Amazing Facts about Reliance More Amazing Facts about Reliance InfocommInfocomm

Reliance Infocomm plans to Reliance Infocomm plans to achieve its break-even in achieve its break-even in the first yearthe first year of launch itself. of launch itself.

Plans to target 12 million customers in its first year Plans to target 12 million customers in its first year of operationsof operations..

6,750 Cr. invested by RIL for a 45 per cent stake in the 6,750 Cr. invested by RIL for a 45 per cent stake in the company.company.

Present shortfall is approximately 40 per cent of the Present shortfall is approximately 40 per cent of the target market that Reliance Infocomm expects to target market that Reliance Infocomm expects to conquer.conquer.

Telecom Landline Demand and Supply (Nov. 02)

Circles Tel. Lines Demand Shortfall

Category A 22.0 22.6 2.7

Delhi 2.2 2.3 6.1

Gujarat 3.0 3.0 1.5

Karnataka 2.8 2.9 3.6

Maharashtra 4.0 4.1 4.2

Mumbai 2.7 2.7 2.0

Tamil Nadu 2.9 2.9 0.3

Chennai 1.1 1.1 0.0

Category B 15.3 16.4 7.7

Category C 3.5 3.7 6.5

Total 40.8 42.8 4.9

Risks for Reliance InfocommRisks for Reliance Infocomm

The company has just launched the project and its The company has just launched the project and its results would speak in a few months time.results would speak in a few months time.

Wooing customers who already avail the services of Wooing customers who already avail the services of giants MTNL, BPL and Orange will be a tough task.giants MTNL, BPL and Orange will be a tough task.

Time for Anil and Mukesh Ambani to prove Time for Anil and Mukesh Ambani to prove themselves after the demise of their father and win themselves after the demise of their father and win

the trust of the present and future shareholdersthe trust of the present and future shareholders..

Limitations to Break Even AnalysisLimitations to Break Even Analysis

Limitation of data , viz. neglect of imputed Limitation of data , viz. neglect of imputed costs , arbitrary depreciation estimates , and costs , arbitrary depreciation estimates , and inappropriate allocation of overhead costs .inappropriate allocation of overhead costs .

Relationship between Relationship between costs and revenuescosts and revenues and and inputinput bound to change over time. bound to change over time.

Costs in a particular period need not be Costs in a particular period need not be entirely due to the output.entirely due to the output.

Changes in selling costs are a cause and not Changes in selling costs are a cause and not result of changes in output .result of changes in output .

Limitations to Break Even AnalysisLimitations to Break Even AnalysisContd…Contd…

Realistic calculations need to be made at Realistic calculations need to be made at several price levels to get various total several price levels to get various total revenue curves.revenue curves.

Break even Analysis is an effective tool for Break even Analysis is an effective tool for short run use onlyshort run use only

Inclusion of too many heads in BE analysis Inclusion of too many heads in BE analysis causes both good and bad performance can causes both good and bad performance can be buried in the total picture of the groupbe buried in the total picture of the group

Factors like technological change , Factors like technological change , improved management, changes in the improved management, changes in the scale of the fixed factors of production etc. scale of the fixed factors of production etc. are ignored.are ignored.

Overview

Case Study Stage in Product

Life Cycle

Expected Maximum Breakeven

period

Result at the end of expected

breakeven period

Strategies adopted to improve Results

Results

www.fabric.online.com

Expansion 1 year(2002-03)

Loss $379 Concentrated on advertisement and promotions

Online sales increased from 150 to 250.Profit $3950

Tata Indica Launch 2 yrs 3 months60,000 cars)(Dec1999-

march 2001)

Cash Break even not achieved

Worked towards improvement of company working capital, Scaled down borrowing by 441 crores

Break Even achieved at 53000 cars . Operating profit 8.32%

Intel (mother board) Existing Product

Annual(1992-93)

20% profit New machine installed with additional inspection accessories

Operating Profit was 37% much more than the estimated 34%

Reliance Infocom New Product

1 year To be observed

Target:12 million subscribers.Low pricesISP High connectivity.

To be observed

ConclusionConclusion

A thorough knowledge of the relationship of A thorough knowledge of the relationship of costs, price and volume is extremely essential for costs, price and volume is extremely essential for business executives. business executives.

They need plan for profits despite of They need plan for profits despite of uncertainties created by dynamic nature of consumer uncertainties created by dynamic nature of consumer needs, the diverse nature of competition , the needs, the diverse nature of competition , the uncontrollable nature of most elements of cost , and uncontrollable nature of most elements of cost , and the diverse nature of continuous technological the diverse nature of continuous technological developments.developments.

Break even Analysis should be used as an Break even Analysis should be used as an effective tool to guide in decision making and not as effective tool to guide in decision making and not as a substitute for judgment , logical thinking and a substitute for judgment , logical thinking and common sense. common sense.