A Short Guide to Breakeven Analysis
In marketing, it can be easy to get sidetracked by the multitude of metrics and calculations that help gauge the effectiveness of your campaigns. One calculation that’s often taken for granted is the breakeven analysis. You may have heard of the term “breakeven” at some point in conversations or meetings.
Breakeven analysis is particularly helpful in helping managers determine the right price for a product or service. According to Harvard Business Review, “managers typically use breakeven analysis to set a price to understand the economic impact of various price- and sales-volume scenarios.” As such, breakeven analysis can assist business and marketing professionals in a variety of ways.
While you may have a basic knowledge of the math associated with breakeven, it’s important to deepen your understanding of the concept as a whole. That way, you can use breakeven analysis to your full advantage and assess the success of products or services.
In this blog, we’ll explore key aspects of breakeven analysis so that you can utilize it to further your marketing strategy!
What is breakeven analysis?
A breakeven analysis plays a crucial role in a marketing plan. Investopedia defines breakeven analysis as “calculating and examining the margin of safety for an entity based on the revenues collected and associated costs.” Essentially, it allows you to know how many sales are needed in order for a product or service to become profitable. Of course, there are other metrics that can further supplement your calculations but breakeven is specifically useful in evaluating long-term success for your client’s products and/or services.
If you aren’t sure whether you need to utilize a breakeven analysis in your plan (you likely do!), make sure to ask yourself the following questions:
- Are you or your client pricing the product/services correctly?
- Is your marketing strategy effective in driving sales?
- Will this new product or service be profitable to the overall business?
- How many sales are needed to cover fixed costs?
What is a breakeven point?
Now here’s the exciting aspect of a breakeven analysis—the breakeven point! This metric is highly important because it’s when your total revenue is equal to your total costs. In other words, it’s the number that lets you know at what point a product/service is generating enough money to cover all costs. If your revenue is over this point, your efforts are generating a profit. However, if sales revenue is below the breakeven point, it’s considered a loss.
To calculate your breakeven point, you typically have two options. You can either measure how many unit sales you’ll need (unit breakeven) or calculate the number of dollar sales you’ll need (revenue breakeven).
Additionally, it’s important to know the difference between fixed costs and variable costs. These metrics are vital to running your breakeven analysis since they make up your total costs. Remember fixed costs that don’t change with the volume sold. This means you pay for an expense even if you don’t offer any products or services, such as rent, office supplies, advertisement fees, and insurance payments. On the other hand, variable costs change with the volume sold. You can think of it as the costs it takes to produce a product or service. These include product materials, packaging costs, and processing fees.
How do you calculate breakeven analysis?
As previously mentioned, there are two ways to calculate breakeven analysis: unit breakeven and revenue breakeven. Let’s take a look at how to calculate each one using real-life scenarios:
Breakeven in units (or unit breakeven)
The formula below calculates the number of units that need to be sold to break even:
Breakeven in units= total fixed costs ÷ $margin (contribution margin)
Now, think about this scenario: you or your client plan to launch a new product with a selling price of $16 each. This product costs $7.25 to produce and ship. You also pay $1,800 in monthly fixed costs. Your $margin (or contribution margin) per unit is $8.75. How many units do you need to sell to break even?
By using the formula, you can easily find how many units need to be sold to reach your breakeven point.
Breakeven in units = $1,800 ÷ $8.75 = 205.71
You or your client would need to sell 206 units each month to break even. Once you’ve calculated your breakeven in units, you can also calculate your revenue breakeven.
The formula for revenue breakeven is as follows:
Revenue breakeven = selling price (per unit) × unit breakeven
Looking back at our previous scenario, you or your client plan to sell a new product at a price of $16 each. You already know you need to sell 206 units each month to reach your breakeven point. With this information in mind, you can calculate your revenue breakeven.
Revenue breakeven = $16 x 206 = $3,296
You or your client would need to sell at least $3,296 in products every month to cover costs.
Breakeven analysis can be a useful tool since it allows you to evaluate whether you or your client have set the best price for a specific product or service. These metrics can also help you assess other aspects of your marketing plan that may need work, such as fixed costs. This is especially important if you’re projected to generate a loss. Review the information in this blog, modify certain parts of your plan, and try out your prices and costs with the formulas. Incorporating breakeven analysis into your strategy will certainly give you some peace of mind and control!