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44 International Door & Operator Industry™ The breakeven point is the dollar volume at which the frm ceases to just cover its costs and begins to generate profts. Breakeven is usually stated as an annual number because most business planning is organized on a twelve-month basis, but the concept may be applied to any time period. Of course, the objective of any enterprise is not merely to breakeven, but to generate proft. Breakeven is important because it establishes the point (in dollars or time) from which profts begin to accumulate. As the calculation will demonstrate, breakeven occurs sooner, and profts accumulate more rapidly as Gross Marin increases. To calculate breakeven we need operating numbers, and Exhibit 4 displays the 2012 results of Up&Down; Garage Door, Inc., the same frm and data used to illustrate the Part I fundamentals. Unlike Part I, we have extended the income statement past Gross Margin to its conclusion, but we have modifed the typical arrangement. To accommodate Breakeven Analysis we have dispensed with the typical operating expense categories (operations, sales & marketing, occupancy and back offce), and have arrayed all costs as either Inescapable (sometimes called "fxed") or Variable (sometimes called "avoidable"). Some business strategists argue persuasively that in the short-run, virtually all operating costs are fxed, particularly for very young or very small frms. While that may be true, successful cost cutting during the recent recession made it clear that aggressive management can fnd economies, thus selected expenses are "avoidable" and have a different impact on business planning than do truly "fxed" commitments. As should all income statements, Exhibit 4 focuses on EBITDA (earnings before interest, taxes, depreciation and amortization) rather than the "bottom line". EBITDA is an excellent proxy of accessible cash fow, and is a better indicator of operating effectiveness than is net earnings. Calculating the Breakeven Point The essential logic of breakeven is this: A business must pay for its whole dollars of operating costs with "fractional dollars" derived from the sale of its products (a "product" may be labor time, a physical item or a combination of both). Look at Exhibit 4: Up&Down; incurred $963,000 of operating expense, but had only 33.8% of its sales dollars available to cover that expense! That relationship of GM to expense is: Breakeven = Total Operating Expense $ divided by GM% of Sales, and is expressed in the equations that follow Exhibit 5, which consolidates salient data from Exhibit 4 for ease of reference. In a 365-day year, breakeven occurred about 3:30 pm on November 1st (.8374 times 365 24 hour days, or a bit more than halfway through the 305th day of the calendar year). MANAGEMENT (continued from page 42) Continued on page 46 Exhibit 4 Up&Down; Garage Doors, Inc. Annual Income Statement % of Net Sales Gross revenues $3,623,000 106.6% less: sales taxes, cc fees, etc. (223,000) -6.6% Net Sales 3,400,000 100.0% Cost of Materials Used: Begin inventory 312,000 9.2% + Purchases 1,574,000 46.3% + Freight 75,000 2.2% - Terms discounts (21,000) -0.6% subtotal 1,940,000 - Ending Inventory (288,000) -8.5% = COMU 1,652,000 48.6% Direct Labor & Subcontracts: Labor wages & incentives 478,000 14.1% + Payroll burden 110,000 3.2% = Total direct labor 588,000 17.3% Subcontract labor 10,000 0.3% Cost of Goods Sold (COGS): COMU + Labor = COGS 2,250,000 66.2% Net Sales - COGS = GM 1,150,000 33.8% Operating Expense: Inescapable Op Expense 725,000 21.3% (e.g. rent, most salaries, insurance, data management, etc.) Variable Operating Expense 238,000 7.0% (e.g. fuel, advertising, commissions, some salaries, bonuses, etc.) Total Operating Expense 963,000 28.3% EBITDA $187,000 5.5% earnings before interest, taxes, depreciation & amortization plus: net other income 2,000 minus: interest, taxes, depreciation & amortization 41,000 Proft before distribution $148,000 4.4% Exhibit 5 Up&Down; Data for Breakeven Calculation 1 Net Sales $3,400,000 2 COGS % of Sales 66.18% .6618 in decimal format 3 Gross Margin % of Sales 33.82% .3382 in decimal format 4 Total Operating Expense $963,000 5 Inescapable Op Expense $725,000 6 Variable Op Expense % of Sales 7.00% .07 in decimal format Total Operating Expense $ $ Breakeven Volume = (Exhibit 5, line 4) Gross Margin % of Sales (Exhibit 5, line 3) $ 963,000 $ Breakeven Volume = (Exhibit 5, line 4) .3382 (Exhibit 5, line 3) $ Breakeven Volume = $ 2,847,130 83.74% of actual 2012 volume 1/24/14 10:51 AM