Content of the material
- What’s Wrong With a Big Tax Refund?
- Factors That Affect Break-Even Point
- Break-Even Point Examples
- Gathering Information for Analysis
- Formula For Financial Break-even Point
- ACoS vs RoAS
- How Break-Even Analysis Works
- When is Break-even analysis used
- How CLV interacts with RoAS
- Ways to monitor Break-even point
- How to make the graph for break-even point in Excel?
- Analyzing a Break-Even Chart
What’s Wrong With a Big Tax Refund?
For many taxpayers, getting that big tax refund each spring is like getting a second Christmas or an early birthday. Even if you know that it’s your own money the IRS is returning to you, it’s hard not to be excited by that check in the mail or deposit in your account.
Most taxpayers know that they’re getting a refund because they overpaid their taxes throughout the year. But, they assume that there’s no harm in the practice. However, where is your money if it’s not in your paycheck where it belongs? Answer: the government is using it.
Instead of earning interest on your money by keeping it in your paychecks and depositing into your bank account, you’re giving it to the government. When you withhold too much from your paycheck, you’re giving the government an interest-free loan.
There’s nothing inherently wrong with this. Whether or not you make bank or break even on your tax returns is unlikely to make a huge difference to your overall financials. But you’re missing out on this interest year after year, and that can add up if you file extensive tax returns.
Factors That Affect Break-Even Point
Certain factors influence the break-even of a company. Some factors cause a reduction while others an increase in the BEP.
Factors that Increase Company’s breakeven Point
- The company’s BEP also rises when there is repair in equipment.
- An increase in customer sales increases the BEP
- An increase in production cost increases a company’s BEP
See also ADVANTAGES & DISADVANTAGES OF INTERNAL FINANCING
Factors That Reduce Company’s Breakeven Point
- When a company decides to opt for outsourcing, there tends to be a reduction in its BEP.
- There will also be a reduction in a company’s BEP when product prices are raised.
Briefing In Accounting Break-Even Point
In the light of accounting, break-even analysis is seen as the level at which production revenue equals production cost. For that of investment, the break-even is the point at which the original cost equates to the market price.
While the breakeven for options trading is attained when the underlying asset gets to the point where buyers would have to incur any loss.
Break-Even Point Examples
Let’s show a couple of examples of how to calculate the break-even point.
Sam’s Sodas is a soft drink manufacturer in the Seattle area. He is considering introducing a new soft drink, called Sam’s Silly Soda. He wants to know what kind of impact this new drink will have on the company’s finances. So, he decides to calculate the break-even point, so that he and his management team can determine whether this new product will be worth the investment.
His accounting costs are as follows, for the first month the product will be in production:
Fixed Costs = $2,000 (total, for the month)
Variable Costs = .40 (per can produced)
Sales Price = $1.50 (a can)
Gathering Information for Analysis
Before you begin your break-even analysis, you’ll need some information. Let’s say you’re dong an analysis for a potential new product. Make a list of all your costs and expenses relating to that product, including facilities, the cost of materials and supplies, machines or equipment, and costs for paying employees to make the product and prepare it to ship.
You'll also need to know two other pieces of information:
- The range of prices you are considering, starting at $0.00
- The range of quantities you estimate being able to sell, starting at none (0)
You will need to separate out fixed costs and variable costs. Fixed costs are those you must pay even if you have no sales (like rent and utilities). Variable costs are those you spend to make and sell and ship products (like raw materials, supplies, and labor).
Formula For Financial Break-even Point
To realize the financial breakeven point, the EBIT is expected to result in a net income of zero. The relationship between the EBIT and the net income is stated as
Net Income = EBIT x (1- Interest Expense) x (1-Tax rate) – Preferred Dividends
Making 0 the net income will therefore be
0 = EBIT x (1- Interest Expense) x (1- Tax Rate) – Preferred Dividends.
To obtain the exact financial break-even point formula, we would arrange the above equation, which will result to
Financial BEP = Preferred Dividend / 1 – tax rate + Interest Expenses.
ACoS vs RoAS
RoAS and ACoS (Advertising Cost of Sale) are really just the inverse of each other, though ACoS on Amazon predated RoAS by many years. RoAS determines the revenue return on every dollar spent on advertising and ACoS determines advertising spend for every dollar revenue returned in sales. ACoS better describes cost whereas RoAS better describes return.
- Ad Spend/Ad Revenue = ACoS expressed as a percentage
- Ad Revenue/Ad Spend = RoAS expressed as a whole number or a percentage
RoAS is probably the more intuitive of the two metrics and is more widely used across the marketing and advertising world (including in Google Ads).
For example, spending $100 on ads to return $500 in revenue would result in an ACoS of 20% and a RoAS of $5 (or 5x, aka 500%). Increase that to $600 in revenue and the ACoS decreases to approximately 16.6% whereas the RoAS simply increases to $6, $6 of revenue for every $1 spent on advertising.
- Make sure that you understand the limitations of break-even analyses. Because they rely on cost and volume estimates, they won’t ever be able to produce a perfectly accurate profit or loss figure.
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How Break-Even Analysis Works
Break-even analysis is useful in determining the level of production or a targeted desired sales mix. The study is for a company’s management’s use only, as the metric and calculations are not used by external parties, such as investors, regulators, or financial institutions. This type of analysis involves a calculation of the break-even point (BEP). The break-even point is calculated by dividing the total fixed costs of production by the price per individual unit less the variable costs of production. Fixed costs are costs that remain the same regardless of how many units are sold.
Break-even analysis looks at the level of fixed costs relative to the profit earned by each additional unit produced and sold. In general, a company with lower fixed costs will have a lower break-even point of sale. For example, a company with $0 of fixed costs will automatically have broken even upon the sale of the first product assuming variable costs do not exceed sales revenue.
When is Break-even analysis used
- Starting a new business: To start a new business, a break-even analysis is a must. Not only it helps in deciding whether the idea of starting a new business is viable, but it will force the startup to be realistic about the costs, as well as provide a basis for the pricing strategy.
- Creating a new product: In the case of an existing business, the company should still peform a break-even analysis before launching a new product—particularly if such a product is going to add a significant expenditure.
- Changing the business model: If the company is about to the change the business model, like, switching from wholesale business to retail business, then a break-even analysis must be performed. The costs could change considerably and breakeven analysis will help in setting the selling price.
How CLV interacts with RoAS
At its most basic, a profitable RoAS is one that exceeds pre-advertising profits, but this is still a rather linear model which doesn’t accurately describe the realities of repeat orders.
Namely, RoAS really describes how advertising costs relate to a single purchase — it’s a short-term or transient measure that doesn’t factor in customer lifetime value (CLV).
CLV is a familiar concept across marketing and advertising and refers to how much value a customer yields to a business or brand over their multiple purchases with said brand. Think of Amazon itself, which retains some 90% of its customers. Given that every customer that Amazon requires has a 9/10 chance of becoming a repeat buyer (likely for many years), it makes sense for them to spend more on acquiring that first sale, as that first sale is likely to lead to another, and another, and so on and so forth.
It costs as much as five times more to acquire a customer than it does to retain them for future purchases — front-loading acquisition costs to bring RoAS closer to the break-even RoAS point (or even below it) is an excellent way to fuel profitable long-term relationships with customers, in the right circumstances. Where repeat purchases and cross-selling are most likely, running lower RoAS ad campaigns is a wise strategic choice. The inverse is also true — where repeat purchases are unlikely, it’s shrewd to keep RoAS high.
This is why CLV should change a savvy Amazon Seller’s perception of RoAS. Judging RoAS in relation to a singular customer-sale relationship and not paying attention to CLV is a missed opportunity in attaining your target ACoS. For example, say an ad spend is $10 and a single ad sale is $20. If that customer makes the same purchase 3 more times over the course of the year, then the ad sale increases to $80 while the ad spend remains at $10. That takes the true ACoS for that particular ad from 50% to 12.5%, all through paying more attention to CLV.
Suggested reading: If you’re still unsure about the basics of Customer Lifetime Value, feel free to get a recap with our starter guide on CLV and CAC — An Introduction To CLV And CAC On Amazon
Ways to monitor Break-even point
- Pricing analysis: Minimize or eliminate the use of coupons or other price reductions offers, since such promotional strategies increase the breakeven point.
- Technology analysis: Implementing any technology that can enhance the business efficiency, thus increasing capacity with no extra cost.
- Cost analysis: Reviewing all fixed costs constantly to verify if any can be eliminated can surely help. Also, review the total variable costs to see if they can be eliminated. This analysis will increase the margin and reduce the breakeven point.
- Margin analysis: Push sales of the highest-margin (high contribution earning) items and pay close attention to product margins, thus reducing the breakeven point.
- Outsourcing: If an activity consists of a fixed cost, try to outsource such activity (whenever possible), which reduces the breakeven point.
How to make the graph for break-even point in Excel?
We will draw up a graph for a clear demonstration of the economic and financial condition of the enterprise:
- Select range “Total costs”, “Income”, “Net profit” and select: «INSERT»-«Charts»-«Insert Line Chart»
- Click on chart and choose the look of the graph and click: «CHART TOOLS»-«DESIGN»-«Data»-«Select Data» on the button.
- For the demonstration, we need the columns “Total costs”, “Income”, “Net profit”. These are the elements of the legend which called “Series”. We manually enter the “Series name “. And in the “Series value” line make a reference to the corresponding column with the data.
- The range of horizontal axis titles is “Production Volume”.
We obtain a graph of the next look:
Let’s change the chart a little (Chart Styles):
Such a demonstration allows you to see that the net profit at the breakeven point really equals “zero”. And after the twelfth output cycle, we were “in the black”.
Analyzing a Break-Even Chart
Now that you have break-even, what do you do with this information? You want to find the highest price you can sell the product at and still make a profit. See what happens when you change either fixed or variable costs to see what happens if you reduce them. Maybe you can increase the volume by finding new markets. What happens when output volume rises or falls. All of these can affect your business profits on this product.
Of course, a break-even analysis isn't created in a vacuum. If you're creating a new product that no one's ever seen before, you have no idea what the volume would be or how soon competitors might pop up. But at least it gives you a way to begin your search for the "best" price for your product.