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Break-Even - Coggle Diagram
Break-Even
Advantages
Focuses entrepreneur on how long it will take before a start-up reaches profitability – i.e. what output or total sales is required
Helps entrepreneur understand the viability of a business proposition, and also those who will lend money to, or invest in the business
Margin of safety calculation shows how much a sales forecast can prove over-optimistic before losses are incurred
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Illustrates the importance of a start-up keeping fixed costs down to a minimum (higher fixed costs = higher break-even output)
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Disadvantages
Most businesses sell more than one product, so break-even for the business becomes harder to calculate
Variable costs do not always stay the same. For example, as output rises, the business may benefit from being able to buy inputs at lower prices (buying power), which would reduce variable cost per unit.
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Sales are unlikely to be the same as output – there may be some build up of stocks or wasted output too
Unrealistic assumptions – products are not sold at the same price at different levels of output; fixed costs do vary when output changes
Margin of safety
The range of output between the break even level and the current level of output, over which a profit is made
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Contribution
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The amount of money left over after variable costs have been subtracted from revenue. The money contributes towards fixed costs and profit
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The break-even point can be calculated by drawing a graph showing how fixed costs, variable costs, total costs and total revenue change with the level of output.
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