Nobody who ever started a business had a long-term plan to just break even. But getting to break even can definitely be a part of the plan for a startup or a business in difficulty.
After dealing with small businesses for many years, I would be shocked if 10% know what their break even number would be. Of course, finding it once is not enough, because every time a fixed item of overhead changes, or if margins change, then the break even changes.
Let’s use a very simple business as our example. Billy and Sally have set up a lemonade stand. This is no ordinary lemonade stand. They are located on the strand at the beach, and they pay $100 per day for rent. They employ one person to make the lemonade and work the stand. They pay $10 per hour including all taxes for 8 hours per day.
The cost of the materials is $.25 and they sell the finished product for $1.
The daily overhead is $180, rent plus 8 hours of labor. The profit per unit is $.75. Therefore you need only divide the $180 by $.75 to figure out how many glasses they must sell each day to break even. It takes 240 glasses per day.
In this scenario, each additional glass adds $.75 for profit. If they fall short of the goal, each glass they fail to sell cuts into their assets by $.75. In other words, if they had $100 in cash and inventory at the start of the day, and they only sell 200 glasses, their cash and inventory the next day will only be $70. A couple of days like that, and they won’t be able to buy raw materials or have cash in the drawer to make change.
Business for this little company is good, but they want to find out when to add a second employee at the same rate. The company is currently selling 360 glasses per day, which means there is a profit of $60. If they add a full time employee now, they will be back to losing $20 per day, as the employee will cost $80. If sales go up because they have two workers making and serving lemonade, they can potentially get back above break even quickly. Since one employee could do 360, the addition of a second body might make it possible to do 720 per day, with a profit of $260.
Even in this simple business, many variables could change and either dramatically increase profits or make the business unsustainable as an profit making enterprise. The cost of lemons and/or sugar could go up, but the stand might not be able to increase the selling price of a glass of lemonade. Those same costs could go down. Competitors could offer lower retail prices. The landlord could up the rent to $200 or even more. The cost of labor could increase due to market forces or government imposition. The cost of labor could be cut through the use of automation, or the owners could outsource the production of the lemonade, and have it delivered in premeasured cups.
Your business is undoubtedly much more complicated than this lemonade stand, but the issues are the same. In order for you to determine your break even numbers and then be able to analyze your choices regarding how to optimize profit under various scenarios, you need bookkeeping. If the lemonade stand doesn’t really know how much they are paying for lemons or sugar to make a glass of lemonade, their break even analysis is going to be incorrect. Therefore their decisions are going to based on bad data.
If there is no accounting for the cash, their employees could be stealing product and or actual cash. There will be no way to know without good accounting.
If you are ready to get serious about your bookkeeping and accounting, you should consider an outside bookkeeping and accounting company. The cost is lower than doing it yourself, and you are benefiting from a disinterested third party evaluation of your methods and execution. You also get analysis from that outsider who doesn’t have any agenda.
ATPP offers just those kinds of services. A short phone conversation can determine your needs and ATPP can follow up with a quote for providing monthly financial reporting and help setting up online resources for real time information. Call ATPP at 818-436-2775