Sales and Leverage

CFA Level 1 - Corporate Finance

A company's costs include both fixed and variable costs. The breakeven quantity of sales is the sales amount where both fixed and variable costs are covered.
Breakeven quantity of sales:

Formula 11.17

BEQ =    fixed costs           price - variable costs

Example:

Assume Newco's product costs for two different products are the figures below. Calculate Newco's breakeven quantity of sales and determine the company's gain or loss at various sales levels for each product.

Figure 11.11: Newco's cost breakdown for Product 1

 

Figure 11.12: Newco's cost breakdown for Product

 


Answer:

Product 1:

For Newco, the breakeven quantity of its product is:BE_Q = $2,400,000/($50 - $20) = 80,000 units

At various sales levels, the company's gains or losses are as follows:

Figure 11.13: Sales analysis

Product 2:

For Newco, the breakeven quantity of its product is:BE_Q = $1,800,000/($50 - $20) = 60,000 units

At various sales levels, the company's gains or losses are as follows

        Figure 11.14: Sales analysis

 

 

Look Out Note from the examples above, the higher a company's fixed costs, if all else is constant, the higher a company's breakeven quantity.

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