CIMA BA2 Syllabus D. DECISION MAKING - Break Even Analysis - Notes ^{1 / 4}

To Break Even in Units, we need to cover our variable and our fixed costs.

Our contribution is:

Sales - All variable costs,

Therefore if we use contribution, then every sale makes a CONTRIBUTION towards FIXED costs.

Once the fixed costs are paid for by these sales then you break even:

So the break even point in units is Fixed Costs / Contribution (per unit)

The Margin of Safety is simply how many we predict to sell ABOVE the breakeven level

The lower the margin of safety - the more of a risk we are taking, because we may not be able to pay off the fixed costs.

The margin of safety can also be expressed as a %, it is calculated like this:

MOS units / Predicted Sales units x 100%

So for the example above:

8.87/12 x 100% = 73.9% is the margin of safety as a %.

This means that predicted sales can go down by 73.9% before we suffer a loss.

Product A has the following information per unit:

Selling price $10
Variable cost $8
Fixed cost $2

Budgeted activity 5,000 units.

What is the margin of safety in units?

Predicted Sales - Breakeven units

5,000 - (10,000/2) = 0

(Fixed costs are $2 x 5,000 = $10,000
Contribution per unit $10 - $ 8 = $2)

Therefore, there is no margin of safety.

If fixed costs increased by 20%, then what would happen?

Fixed costs $10,000 x 120% = $12,000

MOS = 5,000 - (12,000 / 2) = (1,000) - This is a negative margin of safety, and therefore in this situation, we would be making a loss.

Very similar to Break-even (units) except instead of contribution in units it's contribution to sales ratio.

We calculate the contribution by sales ratio by Contribution/Sales.

For example, if we have a contribution of 40 and selling price of 100, then the C/S ratio is 40/100 = 40%.

This means that for every $1 that is sold, we will make a contribution of $0.4

Therefore, the higher this ratio is, the quicker the break even point will be reached..

So the break even point in revenue is Fixed Costs / Contribution to sales ratio