Roadmap to Recovery: Establishing a Breakeven Point
A breakeven point is the point at which a company’s revenue perfectly covers the company’s expenses. Under normal circumstances, your business’ breakeven point is important to establishing budgets and long-term business plans and goals. In a post-pandemic economic landscape, it also serves as a gauge of financial health. Not only will you use yours to make big decisions about your business, you will also use it as a measure of how your company is doing in the post-pandemic world.
Recessions and Breakeven Points
During periods of economic instability, many companies’ risk of their expenses outpacing their new revenue grows exponentially. As the way the world does business changes, so will the way businesses operate. This means adjusting your business operations to stay agile with the economy.
Keeping track of changes to your breakeven point in a potential recession prevents you from spending money your business does not have on things that are not critical to operations. Lowering costs to match a potentially lower revenue is critical to a company’s post-pandemic survival.
Why Conduct a Breakeven Analysis?
Your breakeven analysis will track the minimum amount of cash your business needs to be bringing in to maintain basic business operations. This is a great opportunity to verify that certain expenses the business is paying are necessary for keeping the business open.
Not only will your breakeven point give your business a starting place for measuring financial health and long-term stability, but it will also point to problem areas in your business. Cutting unnecessary expenses and only paying for things absolutely crucial to the business will lower your breakeven point and get you on the path to recovery more quickly.
Many businesses are struggling to adjust to the new economy the COVID-19 pandemic has created. The new economic landscape is forcing business owners to make tough business decisions. Whether it is prioritizing the more successful functions of the business or restructuring processes, a breakeven point analysis is critical.
Understanding the financial impact of your business decisions long before they can impact your business will increase the odds of a company’s post-pandemic survival. Informed decisions keep businesses from suffering the consequences of a decision that was made in haste.
Calculating Your Breakeven Point
When calculating your breakeven point, you will need to consider more than just your base revenue and your expenses. Consider padding your breakeven point with other variables, such as fixed costs and contribution margins. Most accountants also recommend that businesses build in safety margins to account for unexpected operation costs or emergencies.
Your breakeven point will also need to be recalculated with each change to your business model or operations. Changes that affect your breakeven point include:
- Change to employee count
- Slower than usual sales
- Lower rate of AR collection
- New sources of funding, such as a government loan
How to Use Your Breakeven Point
After establishing your breakeven point, you can use it to evaluate and adjust your pre-pandemic business plan. Your next steps should include review, assign and pivot.
Review each of your business’ departments and functions. Determine which of them is necessary to the survival of your company. You need to prioritize funding for functions that will ultimately keep your company afloat.
The next step is assigning true costs to these critical business functions. How much does it cost to operate each department or function? Can any of these costs be cut or reduced, while still maintaining sufficient operations?
Be prepared to pivot your new post-pandemic business plan. As the economic landscape shifts, your breakeven point will also shift. Loss of sales, cutting department operations and accepting outside funding are all factors that will impact your breakeven point. Create contingency plans for your business to pivot toward in the event that your breakeven point drops.
Using your 13-week cashflow forecast and your breakeven point data, you can conduct a stress test to see the financial and operational impact of business decisions before you make them. Your cashflow forecast serves as a dynamic financial model of the cash your company is expected to have at any given time in the coming weeks. This will frame the data from the cashflow forecast in terms of your company’s goals and financial health.
Financial Stress Testing
Financial stress testing shows business owners the impact of certain financial decisions on the company. For example, if you were considering the financial impact of switching to a different product supplier. The new production costs would go into the cashflow forecast, giving you insight as to how the switch would affect everything from your cashflow to your breakeven point revenue. Knowing the financial effects of decisions before you make them will be crucial as we move forward into this new economic landscape.
Operational Stress Testing
Operational stress testing will show the effect of changes to the operational structure before they are implemented. Things like a change in employee count or shutting down a department not vital to business functions can influence your breakeven point and cashflow, and not always positively. The operational stress test will help you understand the long-term impact of these decisions before they can affect your actual business.
Establishing a breakeven point is a crucial step on your company’s roadmap to recovery. Your breakeven point serves as a sort of gauge of your business’ financial health. As your breakeven point changes, you will get a sense of the direction in which your business is moving and a measure of its financial health. As we move forward in this new financial landscape, your breakeven point is crucial to measuring your company’s success.