Break-even analysis and investing – THIS IS WHAT YOU NEED TO KNOW!

Break-even Analyse

Break -even analysis looks at the margin of safety of a good (stock). It looks at the profit and the costs associated with it to see how much the profit must be to avoid a loss. It calculates what price a product should have, or how much should be sold, to cover the total costs incurred by the company. This gives the seller a better insight into the sales possibilities. Break-even analysis is also very useful for an investor .

How does a break-even analysis work?

A break-even analysis is often used internally by a company to determine what the production level and desired sales target should be. A break-even analysis includes the calculation of the break-even point (BEP), also known as the equilibrium price . This is calculated by dividing the total cost of producing by the price per individual unit of a product. The fixed costs in this calculation are the costs that remain the same for the company, regardless of how many units of the product they ultimately sell.

Break-even analysis examines how fixed costs of production compare to the profit gained from each additional unit sold. In general, lower production costs also mean a lower BEP for a company. If fixed costs are lower than the profit that would be generated by selling a unit, a company breaks even when it sells a product. Unless, of course, there are variable costs that are more than the added value of the profit of the product.

Other application: use break-even in investing

In general, a break-even analysis is only for internal use in a company, but investors may also be interested in it. For example, they can use the break-even analysis to determine at what price they will break even on an investment or trading of shares. The calculation in a break-even analysis can be helpful in creating an investment strategy for buying stock options , for example .

The image below shows an example of how a break-even analysis can be applied when purchasing a call option . With an option, you have a fixed price when purchasing: the strike price. If the price of the share on which you have taken an option increases, you can choose to exercise your option. However, exercising an option is only interesting when your strike price (purchase costs) are covered.

Contribution margin

Conceptually, a break-even analysis is concerned with the contribution margin of a product. This is the difference between the selling price of a product and the variable costs of the product.

For example: Suppose you sell a product for €250 per unit. The fixed costs of the product are €40 per unit and the variable costs are €80 per product. The contribution margin of that product is then €130. This is calculated by subtracting the total costs from the sales price. The calculation is therefore: €250 – (€40 + €80). This amount, €130, is the profit that is used to cover the remaining fixed costs. These are not included in the calculation of the contribution margin.

This can also be done when trading in shares. For example, you have transaction costs (variable) when purchasing and perhaps fixed costs such as service costs.

Calculations for a break-even analysis

There are two calculations that can be used for break-even analysis. The first is where we divide the total fixed costs by the contribution margin per unit. If you have a product where the total fixed costs are €30,000 and the contribution margin is €50, then the BEP is €30,000 divided by €50, or 600. In short, when 600 units are sold, the total fixed costs are covered for the product. The net profit or loss for the company in this case is €0.

An alternative calculation of BEP is one where we divide the total fixed costs by the contribution margin ratio . The contribution margin ratio is calculated by dividing the contribution margin by the selling price of the product. An example of that calculation:

A product is sold for €200, with a contribution margin of €80 per unit. To calculate the contribution margin ratio, we divide €80 by €200. This results in a contribution margin ratio of 40%. If the total fixed costs in this case are €40,000, the BEP is €100,000. This is calculated by dividing €40,000 by 40%.

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Break-even analysis and investing – THIS IS WHAT YOU NEED TO KNOW!

Break-even Analyse

How does a break-even analysis work?

Other application: use break-even in investing

Contribution margin

Calculations for a break-even analysis

Start your own investment strategy

Join thousands of others?

The value we offer:

See also

Day Trading Strategies for Beginners – TIPS & TRICKS

Popular Active Investment Strategies – THIS IS WHAT YOU NEED TO KNOW!

Recovery of this stock price on the London Stock Exchange is too difficult

Forex Investment Strategies – TIPS & TRICKS

Expensive VS Cheap Stocks – THIS IS WHAT YOU NEED TO KNOW!

Differences between stocks and bonds – THIS IS WHAT YOU NEED TO KNOW!

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