Breakeven Analysis (BA) is important in order for a business to know how many units of a good or service it will need to produce simply to break even. That is, the point that the business does not lose and doesn’t gain anything by making an economic profit. Breakeven Analysis is important as well in that it helps a firm make a decision at the beginning of an enterprise, if the amount of goods that needs to be sold is out of reach for a particular market.

Breakeven Analysis is a simple concept, since it can be defined as the amount of goods that need to be sold in order to breakeven. Let’s look at a simple example: Let’s say a friend, named Billy Bob, wants to start a diver charter operation and Billy Bob asks you to do a Breakeven Analysis. Billy Bob tells you that each trip will take a total of 8 hours of travel time to accomplish and for each hour it will take 20 gallons of gasoline at $4 per gallon. Billy Bob also states that it will take 3 employees, a captain and two crewmen to provide this service. The captain earns $50 per hour, and each crewman will earn $20 per hour. Maintenance fees are $200 for each month. Fixed costs associated with this operation are $4,000 per month. The required rate of return that Billy Bob is requesting is 10%, which matches up with similar diving operations along the Gulf Coast. For each trip the boat takes there will be 10 divers at a flat rate of $200 for each diver.

The revenue function would be r=200(10)q. If 150 trips were taken a year, revenue would be $300,000. Fixed costs for the year would be ($4,000) (12) times the required rate of return, which would be $52,800. The variable costs per trip would be as follows:

Wages= $720
Gasoline=$640
Maintenance= $200

Therefore, variable cost per trip would be $1,560 and the cost function would be $52,800+ $1,560q.

The breakeven point would be 52800+1560q=2000q, resulting in a breakeven point of 120. This means that 120 trips will need to be taken for this operation to breakeven. The profit function is simply revenue minus costs (2000q-1560q+52800) which would be $118,800, if 150 trips are taken per year. Contribution Margin would be $2000 – $1,560 which would be $440. If the price charged per diver were to fall to $175, revenue would fall. Also, the new breakeven point would increase to 277.9 (52800+1560q=1750q). Breakeven analysis is dependent on price and costs. For instance, if the state of Florida decided to charge $18,000 per year for this diving operation to obtain a license in order to dive in the Gulf of Mexico. The diving operation would have to increase prices charged to divers in order to make a profit or increase the number of trips taken to breakeven. The new breakeven equation would be 70800 +1560q=2000q, with a new breakeven point of 160.9 trips needed to be taken per year at the minimum. As shown above, variable costs can rise for this diver operation business if gasoline prices increase, maintenance costs increase, or even if the employees demand higher pay. Billy Bob may wish to stop operations (shutdown) altogether for the diver operation if the price being charged to its customers does not cover its variable costs.

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