Break-even analysis is a technique widely used by production management and management accountants. Break-even analysis gives managers
Question:
Break-even analysis is a technique widely used by production management and management accountants. Break-even analysis gives managers an idea of the minimum number of units it needs to sell in order for the product to be viable.
The break-even point for any firm is the level of production at which total cost and total revenue are equal so a firm makes zero profit, or 'breaks even'.
BEQ = VC x BEQ + FC
P P
Where:
BEQ = Break Even Quantity
VC = Variable Cost per unit
P = Price
FC = Fixed Cost
Geoff's Accounting Services does individual tax returns at a fixed price of $100. Geoff has only a small office for which he pays $750 a week in rent for or $150 per working day. Geoff owns six computers which are used to complete the tax returns. If Geoff hires 5 staff members to complete returns each of them are able to use a computer. If Geoff hires more than 5 staff members his staff have to wait to use a computer. If he hires less than 5 some of the computers are not used at all. We assume here that Geoff can sell any output of tax returns his company can produce.
Output '000 | Price | Total Revenue | Fixed Cost | Variable Cost | Total Cost | Total Profit | Average Variable Cost | Average Total Cost | Marginal Cost | Marginal Revenue |
0 | 100 | 0 | 150 | 0 | 150 | -150 | 0 | 0.0 | 90 | 100 |
1 | 100 | 100 | 150 | 90 | 240 | -140 | 90.0 | 240.0 | 80 | 100 |
2 | 100 | 200 | 150 | 170 | 320 | -120 | 85.0 | 160.0 | 100 | |
3 | 100 | 300 | 150 | 380 | -80 | 76.7 | 126.7 | 20 | 100 | |
4 | 100 | 400 | 150 | 250 | 400 | 0 | 62.5 | 100.0 | 10 | 100 |
5 | 100 | 500 | 150 | 260 | 410 | 90 | 52.0 | 82.0 | 50 | 100 |
6 | 100 | 600 | 150 | 310 | 460 | 140 | 51.7 | 76.7 | 100 | 100 |
7 | 100 | 700 | 150 | 410 | 560 | 140 | 58.6 | 80.0 | 190 | 100 |
8 | 100 | 800 | 150 | 600 | 750 | 50 | 75.0 | 93.8 | 200 | 100 |
9 | 100 | 900 | 150 | 800 | 950 | -50 | 88.9 | 105.6 | 200 | 100 |
10 | 100 | 1000 | 150 | 1000 | 1150 | -150 | 100.0 | 115.0 |
From the table above answer the following questions. Include your workings for each answer.
- At an output level of two tax returns what is the marginal cost?
- As price is fixed at $100 marginal revenue will always be $100. What type of market structure does this resemble?
- What is the variable cost at output level 3?
- Explain why average total cost starts out high and then begins to drop.
- What occurs to average and marginal costs if Geoff hires more than 5 staff? What economic principle does this demonstrate? Explain.
- Why are 3,000 returns not profitable?
- Why are 9,000 returns not profitable?
- What is the profit maximising output of Geoff's Accounting Services?
- What is the formula used to determine this amount?
- Profit can also be made at output level 8,000. Why is this not a suitable output level to choose?