No business sets out to break even or lose money, but one that operates without the knowledge of the sales volume required to cover cash flow requirements can run into trouble. While Pointguard recommends accrual basis accounting to evaluate profitability, you will need to know a few other items to ensure you have enough cash to operate.
How to Calculate Break Even
While there are several variables to consider, the most critical are the amount of your general and administrative expenses, your anticipated gross profit margin percentage, your non-cash expenses including depreciation and amortization, and your monthly debt principal due. To calculate break even sales volume, take the sum of your total general and administrative expenses and your monthly debt principal and subtract the monthly recorded depreciation and amortization expense. Divide the sum by the anticipated gross profit percentage. The result is the amount of gross sales volume you need to generate to break even for the month.
| General and Admin Expenses | $110,000 | |
| Monthly debt principal due | + | 15,000 |
| Depreciation and amortization | – | (12,000) |
| Subtotal | 113,000 | |
| Anticipated gross profit margin % | / | 32% |
| Break even sales volume | = | $353,125 |
How To Use Break Even in Planning
Develop your yearly forecast broken down into months so that you anticipate which months based on history you may have trouble reaching break even sales volume. If your business is cyclical, work to fill in the slow months with additional work or plan to reduce your costs to minimal levels to avoid unnecessary losses simply because you failed to plan ahead. If necessary, build working capital in profitable months to help cover the months you anticipate not achieving break even volume.
Other Considerations Generating break even volume will not cover your additional working capital needs for inventory, slower than anticipated collections of accounts receivable, or one-time expenses. It could mean that you will need short or long term lending options for seasonal shortages. A business can’t live on break even volume, but you can survive in the short term if you plan ahead.
