Breakeven Selling Price and Breakeven Volume

Revised, November 2017

Written, March 2007

Many small start-ups get a good tentative look at pricing their product or service based on a simple look around at the price of competing products or services. That is a sound starting point; after all, it gives one a benchmark from which one will probably have to compete against those other products and services. That market survey however, does not reflect in any way your cost of production.

Once you have done a market survey, it important to compare market pricing along with your own break-even cost-of-production price. On a very gross level, this will tell you if you are making or losing money. Thoughtful calculation of the break-even cost-of-production (breakeven) price will help you identify paths to increased productivity, greater efficiency and increased profitability. This is the minimum price at which you can sell product and cover costs.  It also helps a company plan for future production and expansion.

To calculate break-even price, the company needs to know its total fixed costs, the volume of production and the variable costs per unit. What to add for a profit margin and arrive at for final product price is a later consideration, again, something that may be best determined by surveying competing products or services, determining premiums for the “uniqueness of your offering” and similar considerations.

When one computes breakeven selling price, it is usually over a range of production and sale quantities using this formula: 

Breakeven Sale Price   =       Total Fixed Cost         + Variable Cost per Unit
                                        Volume of Production

First, categorize fixed and variable costs. The total fixed costs are costs that do not change with the production level (number of production units). Variable costs, on the other hand, always change with production level.

A key concept in this formula is the fixed- cost per-unit of sales.  A very simple example would be if you have a fully staffed factory and that facility only produced one individual unit of product each year.  The fixed cost of production on that unit would be the factory-year’s entire cost.  Alternatively, if the same facility produced ten-thousand units of product each year.  The fixed cost of production on each unit would be one-ten-thousandth of the factory-year’s entire cost.

Quite simply, the larger the number of units produced and sold, the smaller the sale price needed to breakeven, and vice versa.  In light of market price (reflected by market forces), profits may accrue at high production volumes; losses will occur below some low-production threshold (the break-even price at that level of production). Because total fixed costs are constant regardless of the volume of production, fixed-cost per-unit of production always drops with increased volume, as shown in the numeric example below.  

Then divided the total fixed cost by the volume of production to calculate the fixed cost per unit of production.

        Total Fixed Cost                   Volume of Production                 Fixed Cost per Unit
            $100            divided by              50                   equals                  $2
            $100            divided by              25                   equals                  $4
            $100            divided by              20                   equals                  $5
            $100            divided by              10                   equals                 $10

Next add the fixed cost per unit to the variable cost per unit to compute a total cost per unit.  This is your breakeven sale price.

                                                                                                Total Cost per Unit
    Fixed Cost per unit               Variable Cost per Unit                (breakeven sale price)
              $2                  plus                  $5                  equals                 $7
              $4                  plus                  $5                  equals                 $9
              $5                  plus                  $5                  equals                $10
             $10                 plus                  $5                  equals                $15

Assume that you pick a sale price of $10.  Let’s examine what will happen to profits if you produce and sell a range of different quantities of the product.

      Sale Price                            Volume of Production                       Gross Income
          $10           multiplied by               50                      equals               $500
          $10           multiplied by               25                      equals               $250 
          $10           multiplied by               20                      equals               $200
          $10           multiplied by               10                      equals               $100
 Variable Cost per Unit                 Volume of Production                  Total Variable Costs
          $5             multiplied by               50                      equals               $250
          $5             multiplied by               25                      equals               $125
          $5             multiplied by               20                      equals               $100
          $5             multiplied by               10                      equals                $50
 Total Variable Costs                    Total Fixed Costs                              Total Costs
        $250                 plus                    $100                     equals               $350
        $125                 plus                    $100                     equals               $225
        $100                 plus                    $100                     equals               $200
         $50                  plus                    $100                     equals               $150
 Gross Income                                Total Costs                                     Profit/Loss
        $500                 less                    $350                     equals                $150
        $250                 less                    $225                     equals                 $25
        $200                 less                    $200                     equals                  $0
        $100                 less                    $150                     equals                -$50

At the sale of 10 units, a loss of $50 is occurs. At the sale of 50 units, the business generates a profit of $150.

Variable costs are those other costs incurred making the product. They are “variable,” because they may depend on the volume of product manufactured (material, subcontractor’s units, labor, discounts for volume shipping and other economy-of-scale issues). Variable costs, the average cost per unit, is calculated by adding the material cost, wages and similar expenses paid out over a set period divided by the number of items produced.

A key point to remember is that we have been discussing breakeven for operations with respect to number of units and corresponding required price. Another way to look at “break-evens” is to consider the required breakeven volume reflected by the price you need to charge to be competitive in the market and to keep the business afloat.

This breakeven product volume is the product's variable costs and the operation’s total operating (fixed) costs. Sales must be greater than the breakeven volume for there to be a profit. Again, market strategy is focuses on particular profit windows based on unit-sale goals (how many MUST be sold) and their profit windows.

To do this, one calculates the total fixed costs of the operation (rent, taxes, non-fluctuating utilities and similar expenses); then the variable costs (those that increase as production increases) per unit manufactured. Subtract the variable cost of each unit from the selling price to find profit-per-unit. Finally, divide fixed costs by the profit to find the break-even point.

Remember, the total fixed costs are those that do not change with the level of production. Variable costs, on the other hand, always change with the level of production. Be thorough and regularly revisit your calculations. Developing a spreadsheet to track your production costs allows you to monitor, costs, expenses and see where you are making or losing money.