Understanding financial equilibrium analysis

Most business owners are familiar with the big three financial documents:

  • Profit and loss statement (income)

  • Cash flow statement (or projection, when used for budget planning)

  • Balance sheet

These statements are compiled monthly, quarterly, and annually, each providing useful information about the fiscal health of the business. The smart business owner consults these statements every month, unravels the story that is revealed, and makes decisions accordingly.

Now suppose that your company plans to launch a new product and you would like to know when the expenses associated with the development and launch of the product will be recovered by the sales of the product at a certain price. For that analysis, there is a fourth financial document, the Balance Analysis, which provides important information about the forecasts.

A balance analysis is carried out when a new product or service will be introduced, or a capital improvement will be made. The breakeven point shows when the sales revenue generated by the new product or service, or the reward derived from operational efficiency that follows the capital improvement, equals the expenses associated with the launch or improvement.

Run an equilibrium analysis to learn how products and services should be priced to recoup your business investment, within a specified time frame, and when the investment decision will be positioned for profit. The breakeven point allows decision makers to predict how long losses must be borne and how to anticipate cash flow.

The breakeven point is achieved when income = expenses; the company does not make or lose money. Business expenses are of two types, fixed and variable. Fixed expenses are standard monthly operating costs. These include office space rental, insurance, utilities, and payroll. Variable expenses are largely related to sales: among them, marketing, sales and advertising expenses are the main ones.

When calculating expenses, it is standard to determine the ratio of variable expenses to sales income. The amount of Variable Expenses is divided by the number of product units sold, which yields the Variable Cost per Unit.

In other words, variable costs = units sold times variable cost per unit. In order to calculate the breakeven point, total expenses = fixed expenses + variable expenses (expressed as units sold times variable cost per unit). As always, sales revenue = unit price times number of units sold.

The breakeven point is reached when:

Price times Units sold = (Units sold times Variable cost / unit) + Fixed costs

The difference between the selling price per unit and the variable cost per unit sold reveals the amount that can be applied to fixed costs each time a unit is sold. Think of it this way: If your monthly fixed costs are $ 2000 and the average price of your product units sold is $ 2, with an average variable cost of $ 1 each, when you sell a unit, you earn $ 1 for apply to fixed units. Costs With monthly fixed costs of $ 2,000, breakeven is reached when the business sells 2,000 units per month.

Knowing how many units must be sold each month to break even is essential for effective financial management of the business. You can also calculate the breakeven point in terms of dollars that must be generated each month. In this example, equilibrium income is achieved at $ 4,000 in monthly sales, since the selling price is $ 2 / unit and 2,000 units must be sold each month to cover expenses.

A basic understanding of the business financial calculations process and the ability to interpret the data generated are must-have skills for all Solopreneur business owners and consultants. While it is true that a person’s accountant or bookkeeper will perform Balance Analysis in Quickbooks by entering the numbers derived from the Profit and Loss Statement, it is always in your best interest to understand how the calculations are performed and how to understand them. what financial documents reveal.

When it is proposed that a new product or service can be sold, which may be the development of a new workshop to propose and teach or some other intangible service, a Balance Analysis will indicate how many units must be sold, billable hours generated, or classes must delivered before production costs are recovered and the new offering is positioned to generate ROI.

Thank you for reading,


Leave a Reply

Your email address will not be published. Required fields are marked *