Define Break-Even Point, Discuss the importance/assumptions/limitations/applications of break even analysis.

Break-Even Point: The break-even point (BEP) is the point at which cost or expenses and revenue are equal. Break-even point is a point at which total costs just equal or break even with sales. This is the activity point at which neither profit is made nor loss is incurred. Break-even point of an enterprise/firm is a point where total revenue/sale proceeds/sale or output equals total cost.

Usefulness/Importance of Break-even analysis:

1. Fair knowledge about break even analysis can help bankers/banking to examine loan proposal of a firm.

2. Break even analysis helps the bankers in assessing working capital requirement of a unit.

3. This analysis helps in revealing clear projections of profit planning of an enterprise at different production level vis-à-vis the financial needs.

4. It also helps to find rate of return on investment of capital at varying levels of production.

5. Break-even lies can be quite useful to management in determining the need for action.

Assumptions of Break-even point:

1. Fixed costs will tend to remain constant. In other words, there will not be any change in cost factor, such as, change in property tax rate, insurance rate, salaries of staffs etc.

2. Price of variable cost factors, i.e., wage rates, price of materials, supplies, services etc.

3. Product specifications and methods of manufacturing and selling will not undergo a change;

4. Operating efficiency will not increase/decrease.

5. There will not be any change in pricing due to change in volume, competition etc.

Limitations of Break-even analysis:

1. It may be difficult to segregate cost into fixed and variable components;

2. It is not correct to assumption that total fixed cost into fixed and variable components;

3. The assumption of constant unit variable cost is not valid;

4. Selling price may not remain unchanged over a period of time;

5. Break-even analysis is a short run concept and has a limited use in long range planning.

Application/Necessities of Break-even analysis:

1. It helps to provide a dynamic view of the relationships between sales, costs and profits.

2. A better understanding of break even, for example, is expressing break even sales as a percentage of actual sales can give managers a chance to understand when to expect to break even.

3. The break-even point is a special case of Target Income Sales.