Knowing the break even point for your business is crucial to a financially sustainable biz! Not only does it help you with pricing, it will also help you manage big inflows of money, make better spending decisions, and pay yourself!
Read on to learn how much money you need to make to break even in your business. No more wondering, “Will this be enough?” Know what you need to make so you can make a plan to get there.
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Break Even Point (0:14)
Your break even point is what you need to make to cover your costs and expenses. Think of it as your baseline; you can’t earn less money than your break even point or you’ll be operating at a loss. Another way to think about this is it’s the bare minimum that you need to earn in your business in order for your business to sustain itself.
The break even point isn’t your profit.
These are two very, very different things. Breaking even doesn’t mean that you make money; You’re simply staying afloat. Your break even point is the foundation in which all of your profit is built upon.
Break even points don’t include your owner pay.
As a small business owner, what you pay yourself from your business comes from your profits. And your break even point has nothing to do with your business profits…it’s just covering your costs.
Numbers You Need to Know (2:57)
Before calculating your break even point, it’s helpful to gather as much information as you can ahead of time. Having a notepad with all of your numbers ahead makes your calculations WAY easier and like a plug and play mathematical formula.
The break even point is based on a single product or service.
You need to know the following numbers for everything that you sell in your business. Most of us don’t have one income stream, and even if you do, you’re probably selling your services at different rates and tiers.
Now that you know that, let’s talk about what numbers you need to know:
Sales Price: Fixed Price for Product, Package Price, or Hourly Rate
The first number you need to know is your sales price. This could be a fixed price for a product, the price of a service package, or your hourly rate. Essentially you need to know how much you’re currently pricing your products.
What do you do if you have a sliding scale structure, or you’re charging different rates for different clients? You can do one of two things: You can consider each sliding scale rate one service items, or you can use an average of what you’re charging.
For example, if you have a sliding scale that ranges from $100 – $200, you could use $150 as your average number since most people are falling somewhere in the middle. OR
If you want to apply all of your prices, they would each be their own service items when you apply the formula (which I’ll explain in more detail below!).
Direct Cost: Cost of Materials & Labor For Each Product or Service
The next thing is you need to know is the direct cost (aka the cost of goods sold) of everything you sell. Direct costs ARE NOT your overhead costs. Rather, it’s the cost of materials and labor for each product and service. It’s the expense that you pay to produce the thing that you sell.
Here’s an example: You sell physical planners and each planner costs you $10 to produce. This includes the cost of paper, printing, and the labor of binding the planners. $10 is your direct costs.
We’re only talking about the cost associated with the planner. We’re not talking about your rent, your website, your social media scheduler, or your virtual assistant.
Now, what if you’re a service provider?
Most of the time, service providers don’t have a lot of direct costs associated with their services. It’s really up to the type of service you offer.
For example, if you’re a web developer, you may hire a subcontractor to help you. Or if you’re a social media manager, you may pay for an agency subscription from Buffer, Later, or Tailwind so you can keep all of your client’s social media accounts under one hub. If you’re a wedding photographer, you may cover the cost of a second shooter yourself.
Contribution Margin: Amount Left After Costs that Goes Toward Operating Expenses
The word margin is not as scary as it sounds. Take a deep breath because I don’t want you to get scared with this one! Your contribution margin is the amount left over after the costs of whatever you’re selling.
Every single thing you sell in your business should have some contribution margin, which means there’s some portion of it that covers your overhead costs (aka your fixed costs or your operating costs).
Contributon margin is:
Sales Price – Direct Costs = Contribution Margin
You take your sales price, subtract your direct costs, and what’s left is the contribution. It’s just a simple mathematical equation.
Here’s an example: A person sells candles and every candle costs $20. The direct costs of the candle is $8, which means the contribution margin is $12.
$20 (sales price) – $8 (direct cost) = $12 (contribution margin)
Fixed Costs + 10%: Fixed Expenses AKA Overhead Costs
This is the last number you need to know is your fixed cost plus 10%. Your fixed costs are your overhead expenses. It’s what you need to pay in order for your business to operate. Most of these expenses will be tax deductions.
Your fixed costs are basically your overhead expenses. Office supplies, advertising, renting, software, hiring subcontractors or virtual assistants are examples of this.
Typically, when we think about fixed costs, we’re thinking about costs that are ongoing and recurring every single month. A good place to start if you don’t know your monthly fixed cost is to figure out those recurring business expenses. If you have any variable expenses, just add 10-15% to get in idea of what your total costs are.
The first part to figuring out your break even point is to calculate your contribution margin. As a reminder, the formula to figure out your break even point is:
Sales Price – Direct Costs = Contribution Margin
Your break even point is your fixed costs divided by your contribution margin.
Fixed Costs / Contribution Margin = Break Even Point
Let’s go back to our candle business and calculate the break even point:
- Price: $20 per Candle
- Direct Cost: $8
- Contribution Margin = $12
- Fixed Costs: $1,500 + $150 (which is 10%) = $1,650
- Formula: $1,650 / $12 = 138 Candles to Break Even
As you can see, this candle company needs to sell 138 candles in order to break even.
Calculating with Multiple Products & Services (Applying It to Your Biz) (15:05)
Real talk, the break even formula isn’t a one-size-fits-all. In this day and age, most businesses have multiple streams of income, so calculating your break even point can get a little complicated.
Watch the demo at 15:32 to see how I set up the Break Even Point spreadsheet and how you can use it. The spreadsheet will help you take these concepts and apply it to a business with diversified income streams.
Here’s what you’ll do with the spreadsheet:
- List all of your products and services
- List all of your sales prices
- List your direct costs
- For each product or service, decide what percentage of your total income it makes up
- Watch as the spreadsheet calculates your breakeven point for each product and service!
Now you know the exact formula for calculating your break even point and how to apply this formula to your business. Plus, you’ve got an awesome spreadsheet that does all the math for you- like WHOA!