As we are working with SME's on improving profitability, one familiar pattern we are observing in most of the organization.

Even though, the team puts effort to maximize the plant utilization as much as possible by producing all SKU's(varieties) and at the end of the day profitability is in red or not as per desirable percentage.

This type of scenario is prevalent in a manufacturing system which follows "High Varieties, low volumes, and dedicated or fixed facility." (Sometimes the team struggles to maximize the output due to forecasting error, changeover and priority clashes)

In those manufacturing system, being busy with increasing production output alone is not going to help in maximizing the profitability. The business head must know in a given cost structure, what is the minimum production output must be achieved? Moreover, what must be the right product mix so that avg selling price is higher to cover up the cost?

In above complication, the breakeven analysis would give clarity to the business head on the three front

What the minimum production we need to target is?
What should be avg selling price target?
What product mix will ensure the desired avg selling price?

Even if the business head is not financially literate, as a business head, he must know the break-even point of his / her business and its significance on strategic and daily management decision-making process.

Break Even point is the indicative reference beyond the point only you would make a profit after discounting your fixed cost and variable cost.

For example, if your break-even point is 10 T / day, that means, you are making a profit only if you produce more than 10 T / day. Till 10 T/ day, your revenues are compensating your fixed and variable cost as there is no profit.

Hence, Breakeven point is a function of your fixed cost or overhead expenses, your average selling price of all varieties and your variable cost.

Academically, the breakeven point can be calculated using the following formula.

Breakeven Point = Fixed Cost

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(Avg Selling price per unit - Avg Variable cost per unit)

For example,

Your fixed cost = Rs 2,00,000 per month

Your avg selling price of all varieties = Rs 25 / Tonne

Your avg variable cost of all varieties = Rs 22 / Tonne

Hence your break-even point is = 2,00,000 /(25-22)/1000 =66 T

That means, given above cost structure, you would make a profit, only after you produce/ sell beyond 66 T.

Now, having understood the formula for arriving breakeven point, how will you use this key performance measure or indicator for improving your business performance?

1.Relook into your fixed cost elements for cost reduction through waste elimination and administrative controls

2.Relook into your product mix rationalization or price increase in specified product lines so that avg selling price would go up

3.Relook into your variable cost elements for cost reduction through waste elimination techniques

Once if you know your business break-even point (BEP), you need to ensure you are meeting that BE point at any point of time or maximize your selling effort more than BE point so that you make your business profitable.