BREAK – EVEN ANALYSIS
Learning Objectives
After completing this chapter, the students will able to:
Determine the break-even point on a linear function. Determine the critical points of
nonlinear functions.
Evaluate the relation of the break-even point quantity and revenue to the total revenue
and total cost functions
Analyze the changes of the selling price, variable cost and fixed cost of the break-even
quantity.
Apply the rules of derivations on functions.
Determine the maximum profit and minimum cost on a given non-linear profit function.
Illustrate the process of finding the break-even quantity and revenue, given a non-linear
revenue and profit function.
Chapter Outline
8.1 Basic Concepts
82 Linear Profit Analysis
8.3 Nonlinear Profit Analysis
8.4 Derivative
8.5 Finding the Critical Points of Nonlinear Functions
8.6 Application of Maxima and Minima in Business
“When you can measure what you are talking about and express it in numbers,
you know something about it.”
Lord William Thomson Kelvin (1824-1907)
8.1 Basic Concepts
Break Even Analysis is the simplest quantitative model used by decision a maker which is
also referred to as cost volume analysis. Its major concerns are interrelationship of costs,
volume, and profit.
Break-Even Analysis is the determination of the number of units that must be produced and
sold to equate total sales with total cost.
It is the point where the revenues equals the cost. At break-even point where the company is
neither gaining nor losing profit.
Break Even Point (BEP) is the volume of sales for which total sales equals total costs where
profit is equal to zero. It also useful in determining volume sales required to generate desired
profit.
Components of Break-Even Analysis
1. Volume. The level of production by a company, which is expressed as the number 1 of units
(quantity) produced and sold.
2. Profit. The difference between total sales and total cost or the income generated by the sale
of a product.
Formula: Revenue – Cost
If profit is = + , then company is gaining profit
If profit is = - , then company is losing profit
If profit is = 0 , then the company is at break-even
3. Cost. The usual number of different costs that must be taken into account in order to
determine profit.
Formula: Cost = Variable Costs + Fixed Costs
Fixed and Variable Costs
1. Fixed Cost. It is a cost that is independent of the volume of units produced. It will
remain the same regardless of the volume of sales. (e.g, rental, management salaries,
some forms of depreciation, property taxes, etc.). These are costs producing a product
that varies proportional to the quantity of production.
2. Variable Cost. It is a cost that is determined on a per-unit basis. It grows in direct
proportion to the volume of sales in other words, it increase in the same amount for each
additional unit sold fall into this category. (e.g. material costs, direct labor costs in
manufacturing, utilities directly affecting production, etc.). These are costs that must be
paid regardless of the quantity produced.
The following notation will be used for Break-even analysis:
X = volume of output or sales in units FC
P = Profit
TC = Fixed costs Total costs (for X units)
SP = Selling price per unit
TR = Total revenue (from the sale of X units)
VC = Variable costs
BEQ = Break-even quantity
The graphical approach of break-even analysis requires both graphs of cost function and
revenue function.
The figure below shows the equations plotted on the same set of axes. The chart below illustrates
both cost function and revenue function. The intersection of the Total Revenue (TR) and Total
Cost (TC) lines, total revenue equals total cost, and the company will break even.
The sales volume at this break-even point is the break-even volume. At higher sales, the business
will generate a profit because the revenue line is higher than the cost line. The profit is the
vertical separation of the lines above the break-even point In any given sales volume to the left
of the break-even point, which means that the total costs exceed total revenue, and the size of
the loss is determined by the vertical separation of the lines of TR and TC. At zero sales volume,
there are no sales volume and or variable costs, but the company still incurs the fixed costs.
