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If you haven't completed our breakeven analysis then you may not know your "True" breakeven point. You don't have to wait, and it is really simple.
To help you understand what is involved in calculating your "True" breakeven point we firstly have to start with the definition of what a Breakeven Point is:
"the amount of income required to be generated by a business to exactly cover the Fixed Overheads of the business operation."
Secondly, what is the formula for Breakeven:
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Example |
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Step 1. |
Sales Income(100%)- Total Cost of Sales % = Gross Profit % |
100%-70%=30% |
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Step 2. |
Total amount of Fixed Overheads (incl interest) in $. |
$50,000 |
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Step 3. |
Your Breakeven Point is Total Fixed Overhead divided by GP% |
$50,000 / 30% = $166,666.67 |
It is not all that hard to calculate, but what is not so easy is to get the costs grouped together right. In my time I have heard it all, I've had Business Owners refer to their total running costs, how property management income now covers all the costs of the business, that a managers salary needs to be added to give a true market based breakeven. Agent salaries have been thrown into the cost figures as well. These are all understandable ways of addressing breakeven as a "back of the envelope or rule of thumb" measure, but when you are making changes it all gets messy, and therefore you disconnect with your business cost base, and in time most business owners eventually cry out "I have lost contact with my numbers, it seemed much easier to be profitable before, now I'm not sure where my business is at."
If you recognise this feeling, or don't want to get to that point, then read on. The solution is simple, and you don't strain over numbers for days to work it out. Here is an example of what you need to do using the alphabet.
What is Cost of Sales, why is it important and how do you work it out?
To help consider the following problem
Question: What do you call the following sequence of letters? manbocpdqesftguhvixjykzl
Answer: To some the answer could be nonsense; to the trained eye it may be the alphabet. Well both are fair answers, but if we liken the sequence of letters to costs in your Profit and Loss report, a simple approach would be to put them into alphabetical order.
Solution: abcdefghijklmnopqrstuvwxyz
On closer scrutiny though, a trained eye also recognises there are two groups of letters within the alphabet, they are vowels and consonants. A further break down by nature of the letters is
Solution: vowels: aeiou consonants: bcdfghjklmnpqrstvwxyz
In relation to costs in your Profit and Loss vowels are 'Variable Costs' and consonants are 'Fixed Overheads’. Depending on how or what you include in them, variable costs are incurred when you settle a property or service a listing (think agent commissions and net property advertising).The total of variable costs makes up Total Cost of Sales, and when subtracted from Income generated gives you the company’s Gross Profit. All other costs make up the fixed overheads (think rent and support staff wages).
How changes in your Costs Affect your breakeven point? How to manage you breakeven.
Now that we have got our costs sorted, and by using the above example, I want to show you how two common decisions you make will affect your breakeven point
- Decrease rent by $5,000
- Increase the Agents Commission % from 45% to 47%
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Current |
Scenario1 -$5,000 Rent |
Scenario 2 |
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Income |
100% |
100% |
100% |
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Cost of Sales |
70% |
70% |
72% |
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Gross Profit % |
30% |
30% |
28% |
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Fixed OH |
$50,000 |
$45,000 |
$50,000 |
|
BE POINT |
$166,667 |
$150,000 |
$178,570 |
So, there are two ways that cost changes affect your business breakeven, they either change the Gross Profit % of your Business or they change the Total Fixed overhead in your business. Think how different scenarios you are considering will affect your breakeven.
We hope this discussion helps you feel more confident about where you can make improvements to your understanding of the profitability of your business, there are many different ways to look at the subtleties of managing business performance.
Live Real Estate Accounts is the only dedicated Real Estate industry firm in Australia, focussed on helping Real Estate business owners understand their financials and path to profitability, you can get in touch with us on (02) 8287 0630 or via our website www.liverealestateaccounts.com.au
