Break-even point & profitability threshold: calculations, formulas

In today’s highly competitive commercial landscape, particularly in the outdoor and sports retail sectors, mastering key performance indicators is essential. The profitability threshold and break-even point are pivotal, as they reveal when a business covers its expenses and begins to generate profits. 

In this article, we will clearly distinguish between these two concepts, discuss their practical applications in network management, and outline the relevant calculation methods. Our goal is to aid you in enhancing performance, anticipating risks, and executing effective commercial strategies to sustainably boost the profitability of your stores.

Calculating the break-even point: formula and step-by-step guide

The break-even point indicates the time needed for a business to reach financial balance, where revenue covers both fixed and variable costs. Unlike the profitability threshold, which denotes a minimum revenue amount, the break-even point is measured in days of operation.

This metric is crucial for managing store networks, as it enables businesses to set concrete targets for daily sales, customer counts, and daily revenue.

Calculating in days

Determining the break-even point in days pinpoints the exact date when the business becomes profitable within the year.

Break-even point (in days) = (Profitability threshold ÷ Annual revenue) × 365

Some businesses opt to use 360 days (banking calendar) instead of 365. This choice is influenced by specific sector conditions and accounting practices. Regardless of the convention used, the aim is to provide a clear understanding of the time required to cover costs.

Calculating in units or revenue

The break-even point can alternatively be expressed in terms of units to be sold (products or services) or revenue.

In units: This approach is suitable when you have a uniform product offering and sales primarily hinge on a single product or product family.
In revenue: Preferred when dealing with a diverse assortment, making it impractical to reduce activity volume to a mere count of units sold.

Discover ways to optimize your margin with Orisha Commerce!

Understanding the profitability threshold: definition and formula

The profitability threshold signifies the minimum revenue a business must attain to cover all fixed and variable costs, whether associated with store management or product production costs. Below this threshold, the business is unprofitable; exceeding it leads to profit generation. This key indicator is used for:

• Evaluating the overall financial performance of the business and identifying the most profitable or underperforming stores;
• Informing strategic decision-making;
• Optimizing store-related expenses;
• Planning short- and long-term growth with achievable revenue targets.

For more insights, explore the 12 crucial store sales KPIs!

How to calculate the profitability threshold?

The calculation involves two types of costs:

• Fixed costs (rent, salaries, depreciation, insurance, etc.): these costs are stable and predictable within the accounting period;
• Variable costs (inventory purchases, distribution, energy, etc.): these costs fluctuate with the activity level.

Profitability threshold = Fixed costs ÷ Contribution margin ratio

To determine this margin:

1. Calculate total revenue;
2. Subtract variable costs from this total;
3. Divide the resulting figure by total revenue.

This method provides a precise understanding of the volume needed for the business to cover its costs and achieve financial equilibrium.

Tools: excel model and online calculator

Using an excel model to calculate profitability threshold and break-even point 

The Excel spreadsheet is a widely used tool for financial calculations. With a pre-configured model, you can:

• Enter fixed and variable costs;
• Specify prices and estimated volumes;
• Automatically determine the profitability threshold and break-even point in days or units.

The key advantage of using a spreadsheet is the ability to test various scenarios such as price increases, cost reductions, and demand changes allowing you to clearly visualize the impact of each decision on profitability.

Using an online calculator for quick estimations

For more immediate needs or quick simulations, a specialized online calculator for calculating the profitability threshold and break-even point can be very useful. Typically, you input:

• Your annual fixed costs;
• Unit price;
• Variable costs per product;
• Sometimes, forecasted revenue.

Within seconds, the calculator will estimate your profitability threshold and break-even point. While convenient for rapid estimates, it is less versatile than an Excel file when it comes to tracking multiple stores or evaluating various strategic scenarios.

Explore Orisha Commerce’s reporting tool to monitor your profitability threshold and break-even point through a retail dashboard!

Practical examples in specialized retail

Case of an unprofitable business

Consider the example of a bike shop with the following financial details for the year:

• Annual fixed costs: €60,000
• Unit price per bike: €300
• Variable unit cost per bike: €200
• Total bikes sold during the year: 250

First, let’s calculate the annual revenue:

• Revenue = Unit price × Number of bikes sold
• Revenue = €300 × 250 = €75,000

Next, calculate the profitability threshold:

• Profitability threshold = Fixed costs / (Unit price – Variable unit cost)
• Profitability threshold = €60,000 / (€300 – €200) = €60,000 / €100 = 600 bikes

To meet its fixed costs and reach the profitability threshold, the store needs to sell around 600 bikes annually. However, it sold only 250 bikes, falling short of the required number.

This reveals that the store is unprofitable as its sales don’t cover the fixed costs. By calculating the profitability threshold, the shop can identify the minimum sales needed for profitability and take corrective actions such as reducing costs, boosting sales, or diversifying its product range to improve the financial standing.

Consult a retail expert

Case of a profitable business

Now, let’s assume that the bike shop operates profitably.

This means the store needs to sell approximately 334 bikes annually to cover its fixed costs and reach the profitability threshold. In our example, the shop sold 350 bikes, surpassing the threshold and generating profits.

With its current revenue, the store can cover its fixed costs and achieve profitability. This suggests that the business is efficiently managed. Calculating the profitability threshold helps the manager comprehend the safety margin and the ability to generate profits even amidst fluctuating sales.

This vital indicator for accurate forecasting aids the business in making strategic decisions to optimize costs, enhance profitability, and ensure long-term viability.

Consult a retail expert

Mastering the profitability threshold and break-even point is crucial for a company’s success. These indicators help you determine the needed sales level to cover costs, anticipate risks, and guide strategic decisions.

With the right analysis and simulation tools, businesses can effectively use these calculations to make informed decisions, gaining visibility and responsiveness to sustainably enhance the profitability of their network.

Sources: Crédit Agricole, Finance for All