Question

A farmer is considering producing turfgrass seed. She estimates the total fixed cost (which are

difficult to allocate) to be about $750,000 and when 20,000 bags are produced the variable cost is $1,500,000.

a) How many bags of seed must the farmer sell to break even? Assuming the producer can sell the seed for $125 per bag.

b) What is the breakeven price? The farmer indicates she will probably sell about 30,000 bags.

c) Your insurance firm has told you that your insurance will be going up by 16,000 in the industry. Show the effect of this increase in the breakeven values.

d) Describe three uses of the breakeven analysis concept.

Answer 1

a)

Break even point in units = Fixed cost / Contribution per unit

Contribution per unit = Selling price per unit – Variable cost per unit

Contribution per unit = $ 125 - $ 75 = $ 50

(Variable cost per unit = $ 1,500,000 / 20,000)

Break even point in units = $ 750,000 / $ 50 = 15,000 units

Thus to break even farmer’s need to sell 15,000 bags of seed

b)

P/V Ratio = Contribution / Sales X 100

Break even point (value in sales) = Fixed cost / P/V ratio

P/V Ratio = $ 50 x 30,000 bags / $ 125 x 30,000 bags X 100 = 40%

Break even point (value in sales) = $ 750,000 / 40% = $ 1,875,000

Thus break even price when farmer sells about 30,000 bags = $ 62.5 per bag

c)

Fixed cost = $ 750,000 + $ 16,000 = $ 766,000

Break even point in units = $ 766,000 / $ 50 = 15,320 units

Break even point (value in sales) = $ 766,000 / 40% = $ 1,915,000

d)

i) The concept of break-even analysis can be used for the purpose of computing the volume of sales needed to attain intended revenue.

ii) Break­even analysis is considered to be the most useful tool while making a choice on the most appropriate technique suitable for business operations. Thus by illustrating the cost of different alternative techniques at different levels of output break-even analysis can facilitate in deciding the best suitable techniques applicable for business process.

iii) In normal circumstances business often has to make a choice either to manufacture certain components or procure it from outside break-even analysis can facilitate an organization to decide whether to make or buy.