Figuring to Stay in Business

The goal of most companies is to breakeven (make as much money as they spent). Even charities need donations to give to people they are helping. Estimate the breakeven point by finding fixed and variable costs. Fixed costs included ongoing, planned costs, example: insurance, lease payment and mortgage payment. Variable costs fluctuate with production, example; boxes, electricity and gasoline. People are optimistic when evaluating variable costs; however, it is better to be realistic. Use past performance records and round up. Consumers are price sensitive and do not want to pay an excessive amount.

After estimating the fixed and variable cost it is time to figure out how many units are made in relation to cost. Example: everything three months we produce 1,000 units. Now apply it to the basic break-even formula:

Price = (Fixed Cost + Variable Cost + Gross Profit) / (Units x 0.08)

Example:

Price = (1,000 + 1,000 + 0) / (1,000 x 0.8) = (2,000 / 800) = $2.50

They should charge $2.50 per unit. The "0.08" represents the Pareto Rule of 80/20. It states, "80% of the land in Italy was owned by 20% of the population." Since there is always a lingering 20% of mishaps, irregularities and lose of sales we only consider 80% of the units will be sold.

Another method to breakeven involves time. If it takes 3 months to fill an order and 3 months to sell the product time diminishes the breakeven point. This creates a downward slop and increases fixed costs in regards to loans that include interest. Lowering fixed costs by paying them off, allows for lower prices. These formulas accounts for time:

Time = 1 + (Manufacturing Time / Sales Time)

And

Price {Time} = P x T

First we must find for time. In the fore mention example Time = 1 + (3/6) = 1.5. Time is always a number between 1 and 2. It can also equal 2, but not less than or equal to 1. In addition, Manufacturing Time cannot be less than or equal to Sales Time.

Now we multiply the Price by Time. PT = 2.5 x 1.5 = 3.75. Now the price range must be between $2.50 and $3.75 for one unit. Manufacturing companies have a lot of overlap. They might manufacture 1,000 parts in 3 months; however, they make sales after completing and orders for 20 units, but are not paid until after the shipment is received and approved. Sales occur before the 3 month period has ended. The sale time is adjusted. The product is sold in a month, yet the final products are not sold until a month after the three months has ended.

This looks something like:

Price = (1,500 + 1,000 + 500) / (1,000 x 0.8) = 3,000/800 = 3.75

The first item was sold on the first month. The total sales time is 4 months. Manufacturing time is always a percentage of sales time; therefore, manufacturing time ends when something is sold. If a product is sold after three months of manufacturing, but all units are not sold for eight months the ratio is 3 to 8.

Time = 1 + (1/4) = 1.25

Price {Time} = 3.75 x 1.25 = 4.69

Now the realistic price of one unit is somewhere between $3.75 and $4.69. New companies want to be realistic and seek a price somewhere between the breakeven point and sales times. Breakeven point, without profit, is $3.12. This gives three pricing options $3.12, $3.75 and $4.69. The optimal price is found when we average all three numbers. Add the numbers together and then dividing the total by how many numbers were added. 3.12 + 3.75 + 4.69 = 11.56: 11.56/3 = $3.85.

If people are unwilling to pay $3.85 for the product, start an investment fund or cut costs. Revenues gained through day trading and bonds is frequently the only method to breakeven on Revenue Statements. Everyone demands a lower price and since no one is hosting a charity for business owners, business owners must find additional forms of income.

Many people believe price is an arbitrary number revolving around how much people are willing to spend. Going to low ends in bankruptcy. People will not pay more than what they feel is the value of a product or service. These formulas establish a budget and budget adjustments.

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