7.4 Break-Even Analysis

	Break-even analysis is a method extensively used by production management and management accountants.
	It is based on categorising production costs between those which are:

		Variable (costs that change when the production output changes) and those that are
		Fixed (costs not directly related to the volume of production).

Total variable and fixed costs are compared with sales revenue in order to establish the level of sales volume, sales value or production at which the business makes neither a profit nor a loss (the "break-even point").

7.4.1 Importance of Break-Even Analysis

	Breaking even is exceedingly vital for all businesses. A business breaks even after it earns adequate sales revenues to disburse all expenses.
	In other words, all expenditures have been paid, despite the fact that the business did not endure a loss or make a profit.
	If the business is not at least breaking even, then the entrepreneur without delay should reevaluate the business strategy and make the appropriate changes

7.4 Break-Even Analysis

4.2 The Break-Even Chart

	In its simplest structure, the break-even chart is a graphical illustration of costs at different levels of activity shown on the same chart as the variation of income (or sales, revenue) with the same variation in activity.
	The point at which neither profit nor loss is made is known as the "break-even point" and is represented on the chart below by the intersection of the two lines:

7.4 Break-Even Analysis

	In the figure, the line OA stands for the variation of income at altering levels of production activity ("output").
	OB symbolizes the total fixed costs in the business.
	As output rises, variable costs are acquired, denoting that total costs (fixed + variable) also increase.
	At small point of output, costs are larger than revenue.
	At the point of connection, P, costs are precisely equivalent to revenue, and for this reason neither profit nor loss is made.
	Fixed Costs

		All the costs incurred by companies can be split into two major groupings: fixed costs and variable costs.
		Fixed costs are costs that are free of output.
		These remain steady right through the relevant range and are generally considered sunk for the relevant range (not relevant to output decisions).
		Fixed costs often include rent, buildings, machinery, etc.

Variable Costs

Costs that alter in ratio to sales are variable costs. General variable costs comprise raw materials, shipping and depletion.

7.4 Break-Even Analysis

		A high level of variable costs means a low level of operational gearing.
		It can be constructive, for financial modelling, to guesstimate the level of variable costs. These are management accounting numbers that are not typically openly revealed, so there will at all times are some doubt.
		The simplifying postulation that variable costs differ directly in percentage to sales or production is typically precise enough, nevertheless, do be alert that this disregards economies of scale and other effects that can change costs with scale.
		A distinction is frequently made between "Direct" variable costs and "Indirect" variable costs.

			Direct variable costs are can be directly attributable to the production of a particular product or service and billed to a particular cost centre. Raw materials and the wages those working on the production line are good examples.
			Indirect variable costs cannot be directly attributable to production but they do differ with output. These include depreciation (where it is calculated related to output - e.g. machine hours), maintenance and certain labour costs.

7.4 Break-Even Analysis

Semi-Variable Costs

		It is a cost that fluctuates with alteration in volume but, contrasting a variable cost, does not differ in direct percentage; also called mixed cost. In other words, this cost includes both a variable and fixed constituent. illustration are the charter of a delivery wagon, where a fixed letting charge as well as a variable charge based on mileage is made;
		Despite the fact that the difference between fixed and variable costs is a suitable way of categorising business costs, in realism there are a few costs which are fixed in personality but which amplify when output reaches certain levels. These are in principal associated to the overall "scale" and/or intricacy of the business.
		For instance, when a business has reasonably low levels of output or sales, it may not entail costs connected with functions such as human resource management or a fully-resourced finance section.
		Nonetheless, as the magnitude of the business matures (e.g. output, number people employed, number and complexity of transactions) then more resources are necessary.

If production rises all of a sudden then a few short-range lift in warehousing and/or transportation may perhaps be essential. In these state of associations, it can be assured that few constituents of the cost is variable and part is fixed.