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  • 1. UNIT 1: BUSINESS STUDIES AS REVISION SUMMARY BREAK – EVEN TOTAL COSTS • • • • • • • TOTAL REVENUE DEFINITION USES OF B/E BASIC CALCULATIONS CONTRIBUTION CALCULATING B/E POINT B/E CHARTS B/E ANALYSIS & EVALUATION • EXAMINERS TIPS NAME: ______________________________ TUTOR GROUP: _____________________
  • 2. BREAK-EVEN ANALYSIS DEFINITION: - The level of output at which business sales provide just enough revenue to cover all the costs of production. - At the B/E level of output, a business has made NO PROFIT. WHY USE BREAK – EVEN ANALYSIS? 1. To help a business decide how much it needs to produce and sell to make a profit 2. Break – even can illustrate the impact of changes in levels of production on the profitability of a business 3. Break – even analysis can help support an application for a loan at the bank. 4. Break – even analysis can be used to compare the profitability of a range of products. BASIC CALCULATION: Examples: a) A furniture shop makes one type of chair that costs £80. At this price the shop is just breaking even. They are considering increasing the price of the chair to £96. Q1 what % has the price increased? ___________________________________________________________ Q2 what profit would the furniture shop make if sold 150 chairs? ___________________________________________________________ ___________________________________________________________
  • 3. CONTRIBUTION Contribution is the most important factor when calculating B/E It is essential that you learn the following formula: TOTAL CONTRIBUTION = TOTAL REVENUE–TOTAL VARIABLE ( TR ) ( TVC ) OR CONTRIBUTION PER UNIT = SP/UNIT – VC/PER UNIT OR PROFIT=TOTAL CONTRIBUTION – FIXED COSTS ( FC ) SO….. WHAT ARE FIXED AND VARIABLE COSTS? Fixed costs (FC) These will remain the same no matter how much a business decides to produce. E.g. ___________________________ Variable costs (VC) These costs can change depending on output levels, e.g. __________________________________________________________ Once FC’s have been paid, contribution (i.e. revenue – vc) provides a firm with profit; therefore contribution provides profit to pay for fixed costs. REVENUE FROM SALES LESS VARIABLE COSTS GIVES USED TO PAY GIVES PROFIT
  • 4. CALCULATING THE BREAK-EVEN (B/E) POINT NEED TO KNOW 3 THINGS: 1. _______________________________ 2. _______________________________ 3. _______________________________ THE FOLLOWING FORMULA MUST BE KNOWN: B/E = FIXED COSTS CONTRIBUTION (SP – VARIABLE COST) CALCULATE THE FOLLOWING B/E: WORKINGS: 1. FC = £120 SP = £10 VC = £2 2. FC = £1000 SP = £200 VC = £50 3. FC = £500 SP = £25 VC = £100 4. FC = £1250 SP = £126 VC = £300 5. FC = £10,000 SP = £255 VC = £775 NOTE: BREAK EVEN IS ALWAYS EXPRESSED IN UNITS, SO PLEASE DO SO IN THE ABOVE QUESTIONS.
  • 5. CASE STUDY QUESTION: Maria owns a successful restaurant in Soho, West London. Her restaurant has an excellent reputation for serving high quality meals in the beautiful setting of a Georgian house. At weekends the restaurant is always turning people away; and at other times it is unusual for there to be any empty tables. Maria is aware she could open another restaurant nearby to increase the number of customers she could serve each month. She is aware that she would have to take out a loan to buy a lease for another property. She has already looked at a building that would seat up to 30 customers. Maria plans to be open 25 evenings per month. Below is an analysis for her new restaurant; Type of cost / revenue Average selling price p/ meal Variable cost per/meal Ingredients, wages Associated fixed costs with opening new premises – Carpets, furnishing, crockery, lease of property Amount £60 £35 £10,000 a) Calculate the B/E point for Maria and briefly explain the calculation. ___________________________________________________________ ___________________________________________________________
  • 6. ___________________________________________________________ BREAK – EVEN CHARTS STEP 1: ‘X’ AND ‘Y’ AXIS It is important to be able to plot and label appropriate axis before attempting to draw any lines on the chart. We know both axis meet at zero but how far to they go up and across? What does the y axis represent?______________________ What does the x axis represent?______________________ The example of Maria’s restaurant can be used to illustrate this point clearly. She opens 25 evenings p/month and has 30 customers per night Therefore maximum customer’s p/month would be: ____________________________________________________ Therefore ‘x’ axis will run 0-_______ meals / customers Since revenues are usually higher than costs, we calculate the highest possible revenue figure for the ‘y’ axis. Maria has a maximum of 750 customers each paying £60 per meal. Therefore maximum revenue p/month would be: ________________________________________________________ Therefore the ‘y’ axis will run 0-___________ revenue / costs. LABEL THESE AXIS’ ON THE CHART: STEP 2: FIXED COSTS Since we know that FC’s stay the same this line will always be completely horizontal. FC must always be paid even if Maria has no customers since they DO NOT vary with output. Therefore: Lowest possible point = highest possible point Label this on the chart.
  • 7. STEP 3: VARIABLE COSTS VC’S will start at zero since: Lowest point = no customers = no variable costs Highest point = maximum customers = maximum variable costs Show your workings below and plot on the chart ___________________________________________________________ ___________________________________________________________ STEP 4: TOTAL COSTS (FIXED COSTS + VARIABLE COSTS) If; TC = FC + VC Lowest point = zero output and zero customers but still have _______ Highest point= max. output and max. customers Total costs will be parallel to variable costs line. Show workings and plot on chart: __________________________________________________________ __________________________________________________________ STEP 5: REVENUE LINE How much will revenue (sales) will Maria earn? Lowest point = zero customers Highest point= maximum customers Show workings and plot the line on the chart ___________________________________________________________ STEP 6: PLOT THE B/E POINT… What is the B/E point for the new restaurant? __________________ Does Maria make a profit / loss at this point, explain your answer?
  • 8. ___________________________________________________________ ___________________________________________________________ ___________________________________________________________ ___________________________________________________________ Consider the following by reading the chart you have constructed: 1. Would Maria make a profit or loss if she had: WHY? - 200 customer’s p/month - 600 customer’s p/month The above example represents what is known as the ‘MARGIN OF SAFETY’. What is this? ___________________________________________________________ ___________________________________________________________ ___________________________________________________________ Margin of safety = max output – b/e point e.g. 600 – 400 = 200 customers is the margin of safety. Therefore Maria could afford to lose 200 customers per month before she would begin to make a loss.
  • 9. ANALYSIS AND EVALUATION OF BREAK – EVEN ADVANTAGES OF B/E ANALYSIS: 1. ______________________________________________________ 2. ______________________________________________________ 3. ______________________________________________________ 4. ______________________________________________________ 5. ______________________________________________________ DISADVANTAGES OF BREAK-EVEN ANALYSIS: 1. ______________________________________________________ 2. ______________________________________________________ 3. ______________________________________________________ 4. ______________________________________________________ EVALUATION: Break-even analysis is only as good and accurate as the data on which it has been based and calculated. If the information is incorrect, forecasts will be wrong, thus causing problems for a business. Also changing trends in tastes, fashions and technology could all invalidate break-even forecasts, e.g. changes in eating habits might affect Maria’s revenue sand therefore her break – even point would change.
  • 10. BREAK – EVEN CHART: MARIA’S RESTAURANT READING THE CHART: B/E POINT = MARGIN OF SAFETY = PROFIT AREA LOSS AREA
  • 11. SUMMARY OF CONSTRUCTING CHART 1. Label horizontal ‘x’ axis to show all levels of production. Scale on this axis should range from: 0-max. output Don’t forget to label both axis 2. Label vertical ‘y’ axis with values for costs and revenues. Scale on this axis should range from: 0-max. revenue 3. Draw the horizontal line to represent FIXED ASSETS- the same, no matter what the output. You must label all the lines on the chart 5. Add TOTAL COSTS line, by adding: FC + VC at zero output, this will equal FC since variable costs are zero at zero output. Mark this point. Then add together FC + VC AT max output, mark this point. Join the two lines together. Line will be parallel with VC line. 4. Add VARIABLE COSTS. This line will start at the origin, i.e. zero. Calculate the max. Variable costs at max. Output and mark on chart. Connect these two points. 0-max. Variable costs Break-even output occurs where the revenue line cuts the total costs line 6. Add REVENUE line. This will begin at origin since Zero output = zero revenue. Then calculate, max revenue at max output. Mark these two pints and join line.
  • 12. KEY TERMS: Break –even chart Break – even point Contribution Fixed costs Variable costs Margin of Safety
  • 13. EXAMINERS TIPS • IT IS UNLIKELY YOU WOULD HAVE TO PRODUCE AN EBTIRE CHART, HOWEVER, • READING DATA FROM A B/E CHART IS V. IMPORTANT SINCE THERE IS OFTEN LITTLE TIME TO DRAW ACOMPLATE CHART. YOU MAY HAVE TO READ -PROFIT/LOSS -MARGIN OF SAFETY -B/E POINT ETC • REMEMBER: Y TO THE SKY = REVENUE / COSTS X TO THE HORIZON = OUTPUT • WHEN PLOTTING LINES FIND THE LOWEST POINT AND THEN THE HIGHEST – JOIN THESE POINTS WITH THE LINE. • CONTRIBUTION IS VITAL; TO CALCULATE B/E, MAKE SURE AND KNOW THIS!! • MEMORISE SPECIFIC EXAMPLES OF FIXED AND VARIABLE COSTS, TO HELP EXPLAIN ANSWERS. • A USEFUL CASE STUDY TO USE TO EXPLAIN YOUR UNDERSTANDING AND KNOWLEDGE OF B/E WOULD BE THE ‘CHANNEL TUNNEL’ – (EXTRACT OVER PAGE) • EXAM SKILLS:
  • 14. KNOWLDEGE Knowledge of key terms and definitions APPLICATION Applying Formula to do calculations in the question ANALYSIS Reading charts, identifying different points and pro’s/cons of B/E EVALUATION Deciding how effective B/E is for certain types of business’ and relating this to marketing.