Break-even analysis is a financial calculation used to determine the number of units or the amount of revenue needed to cover total costs (both fixed and variable). It identifies the point at which a business neither makes a profit nor incurs a loss. This point is known as the break-even point (BEP).

Key Components of Break-Even Analysis

  1. Fixed Costs (FC): These are costs that do not change with the level of production or sales, such as rent, salaries, and insurance.
  2. Variable Costs (VC): These costs vary directly with the level of production or sales, such as raw materials, labor, and utilities.
  3. Total Costs (TC): The sum of fixed and variable costs at a given level of production.
    TC = FC + (VC \times Q)
    where (Q) is the quantity of units produced.
  4. Sales Revenue (SR): The total income from sales, calculated as the selling price per unit (P) multiplied by the number of units sold (Q).
    SR = P \times Q
  5. Contribution Margin (CM): The amount per unit that contributes to covering fixed costs and generating profit, calculated as the selling price per unit minus the variable cost per unit.
    CM = P – VC
  6. Break-Even Point (BEP): The level of sales at which total revenue equals total costs.
    BEP (\text{units}) = \frac{FC}{CM}
    Alternatively, it can be calculated in terms of revenue:
    BEP (\text{revenue}) = \frac{FC}{\frac{CM}{P}}

Purpose of Break-Even Analysis

Example of Break-Even Analysis


A company produces widgets. The fixed costs are $50,000 per year. The variable cost per widget is $20, and the selling price per widget is $50.


  1. Contribution Margin:
    CM = P – VC = 50 – 20 = 30
  2. Break-Even Point (units):
    BEP = \frac{FC}{CM} = \frac{50000}{30} \approx 1667 \text{ units}
  3. Break-Even Point (revenue):
    BEP (\text{revenue}) = 1667 \times 50 = 83350

Therefore, the company needs to sell approximately 1,667 widgets or generate $83,350 in revenue to break even.

Graphical Representation

A break-even chart can visually represent the relationship between costs, revenue, and the break-even point.

  1. Total Revenue Line: Starts at the origin (0,0) and rises with the selling price per unit.
  2. Total Cost Line: Starts at the level of fixed costs and rises with the variable cost per unit.
  3. Break-Even Point: The intersection of the total revenue and total cost lines, indicating where total costs equal total revenue.

Applications of Break-Even Analysis

  1. New Product Development: Assessing the viability and required sales volume for new products.
  2. Cost-Volume-Profit Analysis: Understanding the relationships between cost, volume, and profit to make informed decisions about pricing, production levels, and cost management.
  3. Scenario Analysis: Evaluating how changes in costs, prices, or sales volumes impact profitability.
  4. Investment Decisions: Helping investors and managers decide whether to proceed with projects based on their break-even potential.

Limitations of Break-Even Analysis

  1. Simplistic Assumptions: Assumes that fixed and variable costs are constant, which may not be realistic in dynamic business environments.
  2. Linear Relationships: Assumes a linear relationship between costs, revenue, and production levels, which may not hold true in real-world scenarios.
  3. Single Product Focus: More complex for companies with multiple products or services.
  4. Ignores External Factors: Does not account for external factors such as market conditions, competition, and economic changes that can impact sales and costs.

Despite these limitations, break-even analysis remains a valuable tool for financial planning and decision-making, providing a clear understanding of the minimum performance required to avoid losses and achieve profitability.