Guide · Business
Break-Even Analysis: How to Know When Your Business Starts Making Money
Understanding your break-even point is the foundation of every pricing and capacity decision. Get it wrong and you can be busy but still losing money.
The break-even formula
Break-even point (BEP) in units = Fixed Costs ÷ Contribution Margin per unit. The contribution margin is simply the selling price per unit minus the variable cost per unit—it tells you how much each sale contributes towards covering your fixed overhead before you start making profit.
To express break-even as a revenue figure rather than a unit count, use: BEP in revenue = Fixed Costs ÷ Contribution Margin Ratio, where CM Ratio = Contribution Margin per unit ÷ Selling Price per unit.
A small coffee shop with monthly fixed costs of £5,000 (rent £2,500, salaries £1,800, insurance and utilities £700), an average selling price of £3.50, and average variable costs of £1.20 per cup (ingredients, cups, milk) has a contribution margin of £2.30 per cup. BEP = £5,000 ÷ £2.30 = 2,174 cups per month.
How price and cost changes move your break-even
The break-even point is sensitive to small changes in selling price or variable costs. A rise in ingredient costs or a promotional discount can quickly push a profitable business into loss territory. The table below shows how the coffee shop's break-even shifts under different scenarios.
| Scenario | Selling price | Variable cost | CM per cup | BEP (cups) | BEP (revenue) |
|---|---|---|---|---|---|
| Base case | £3.50 | £1.20 | £2.30 | 2,174 | £7,609 |
| Variable costs rise to £1.50 | £3.50 | £1.50 | £2.00 | 2,500 | £8,750 |
| Selling price drops to £3.00 | £3.00 | £1.20 | £1.80 | 2,778 | £8,334 |
| Both adverse: £3.00 / £1.50 | £3.00 | £1.50 | £1.50 | 3,333 | £10,000 |
The most damaging combination—lower price and higher variable costs simultaneously—pushes the break-even up by 53%. This is a common squeeze during inflationary periods and highlights why pricing decisions should always be modelled against the break-even point before implementation.
Profitable, break-even, and loss scenarios
Once you know your break-even point, you can quickly assess any volume scenario. The coffee shop at different monthly volumes:
| Monthly cups sold | Revenue | Variable costs | Contribution | Fixed costs | Profit / Loss |
|---|---|---|---|---|---|
| 3,000 (profitable) | £10,500 | £3,600 | £6,900 | £5,000 | +£1,900 |
| 2,174 (break-even) | £7,609 | £2,609 | £5,000 | £5,000 | £0 |
| 1,500 (loss) | £5,250 | £1,800 | £3,450 | £5,000 | −£1,550 |
Notice that fixed costs remain constant at all three volumes. Only the contribution changes. This is why increasing sales volume has a disproportionately large impact on profit once you pass break-even—every additional unit sold above break-even contributes its full £2.30 to profit.
Fixed, variable, and semi-variable costs
Getting the cost classification right is critical. Fixed costs do not move with volume in the short term: your monthly rent is the same whether you sell 100 cups or 5,000. Variable costs scale directly with output: you spend more on coffee beans and milk as you serve more customers.
Semi-variable costs are trickier. Electricity is a good example—there is a fixed standing charge regardless of usage, plus a per-unit cost that rises with how long your espresso machine runs. Staff wages can be semi-variable if you use part-time or zero-hours staff who work more hours when the business is busier. The practical approach is to split semi-variable costs into their fixed and variable components using historical data, or to classify the entire cost as fixed if the variable element is small.
Break-even analysis is a planning tool, not a management tool. It answers the question “how many must I sell?” before you open your doors. Real businesses then track contribution margin by product line—the coffee shop might find that cold brew has a higher CM than hot espresso drinks—and use that information to make pricing and product mix decisions that shift the overall CM ratio upward.
Frequently asked questions
What is the difference between fixed and variable costs?
Fixed costs stay the same regardless of how much you produce or sell: rent, salaries, insurance, and loan repayments are typical examples. Variable costs rise and fall directly with output: raw materials, packaging, and payment processing fees. Some costs are semi-variable—electricity has a fixed standing charge plus a usage element. Correctly classifying costs is the most important step in any break-even analysis.
How does break-even change if I reduce prices?
Reducing your selling price shrinks the contribution margin per unit (selling price minus variable cost), so you need to sell more units to cover the same fixed costs. For example, if the coffee shop drops its average price from £3.50 to £3.00 (variable cost still £1.20), the contribution margin falls from £2.30 to £1.80 and the break-even point rises from 2,174 cups to 2,778 cups per month—an increase of 27.8%.
What is contribution margin?
Contribution margin is the selling price minus the variable cost per unit. It represents how much each sale 'contributes' towards covering fixed costs and then generating profit. The contribution margin ratio expresses this as a percentage of the selling price. A higher contribution margin means you need fewer sales to break even and each additional sale is more profitable.
Is break-even analysis useful for service businesses?
Yes, though you often substitute 'units' for billable hours or client engagements. A freelance consultant with £2,000/month in fixed costs (software, office, accountant) and a day rate of £500 with £50 in variable costs per day has a contribution margin of £450/day and needs to bill 4.4 days per month to break even. The concept is identical—only the unit of measurement changes.