Break even sales is the amount or volumes of sales that a company must realise in order to match the sum of its variable and fixed costs. (In other words, simply put, this is amount of sales a business must make in order to meet its costs.) If a business’s sales cannot at least match its costs then that business in not viable.

In other instances, a manufacturing business may also be able to determine the break even volume of production or the production capacity that it must operate at in order to break even. Please do not be put off by the formula below as it followed by a very simplified example.

The break even formula is as follows

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Fixed Costs =Breakeven Sales

*Contribution Margin

*Contribution Margin = 1- Variable Costs

Sales

As an example, for 2008 Eld Limited realised sales of $ 5 000 000 and had of fixed costs of

$1 000 000 and variable costs of $ 2 500 000. Eld Limited’s break even sales figure is worked out as follows

Eld Ltd’s contribution margin

1 - $ 2 500 000 = 1 - 0.5 = 0.5

$5 000 000

Eld Ltd’s breakeven sales

$ 1 000 000 = $ 2 000 000

0.5

A banker will be comfortable in dealing with a company like Eld Limited. The company has a sales figure of $5 000 000 but it requires sales of only $2 000 000 to meet its costs. The sales would therefore need to drop by at least $3 000 000 before we can begin ringing alarm bells. There is quite a huge gap of comfort.

However, the situation could have been very different if Eld Limited realised sales of $2 100 000 against a break even sales point of $ 2 000 000. If the sales were to drop by just more than $ 100 000, Eld Limited would be in trouble.

By the same token if a Eld Limited runs a bakery,. it will be possible for management to determine the breakeven sales volume. For example if the bakery must sell the 50 loaves per day just to break even, the banker will be pleased if the actual sales volume is 150 loaves per day than if it is 57 loaves per day. With sales of 57 loaves per day there is a very thin margin of comfort.

Bankers are more comfortable dealing with businesses that has have considerable margins of safety in which to manoeuvre.