Break-Even Point Analysis

If a company's current sales are more than its break-even point, it has a margin of safety equal to current sales minus break-even sales. The margin of safety is the amount by which sales can decrease before the company incurs a loss. For example, assume Video Productions currently has sales of USD 120,000 and its break-even sales are USD 100,000. The margin of safety is USD 20,000, computed as follows:

\(\text { Margin safety }=\text { Current sales }-\text { Break-even sales }\)

\(\text{<span style="font-size: 0.9375rem;">=USD 120,000-USD 100,000}\)

\(\text{= USD 20,000}\)

Sometimes people express the margin of safety as a percentage, called the margin of safety rate. The margin of safety rate is equal to \(\frac{\text { (Current sales - Break-even sales) }}{\text { Current sales }}\). Using the data just presented, we compute the margin of safety rate as follows:

Margin of safety rate \(=\frac{\text { (Current sales }-\text { Break-even sales) }}{\text { Current sales }}\)

\(\frac{(\mathrm{USD} 120,000-\mathrm{USD} 100,000)}{\mathrm{USD} 120,000}=16.67\) percent

This means that sales volume could drop by 16.67 percent before the company would incur a loss.