How to estimate Business profits?
Every Business entrepreneur would like to estimate his/her business profits from time to time and work hard to achieve those targets.
Here we will learn to use a powerful tool that estimates Business profits. How a business's profits change as the sales volumes change as well as break even points. Although the purpose of every business may be different but the success of the business is measured in terms of Profitability.
The business analyst must accesses:
"What is the Break even point?"
"What is the Break even point?"
"What should be the Sales turnover for the period?"
"How to cut down on costs and increase profitability?"
The break-even point (BEP) is the point at which cost or expenses and revenue are equal: there is no net loss or gain, and one has "broken even." Using this tool one can estimate margin of safety and find what should be the level of sales in order to cover both fixed costs and variable costs.
The break-even point (BEP) is the point at which cost or expenses and revenue are equal: there is no net loss or gain, and one has "broken even." Using this tool one can estimate margin of safety and find what should be the level of sales in order to cover both fixed costs and variable costs.
Profit-volume-cost analysis often produces surprising results.Typically, the analysis shows that small changes in a business's sales volume produce big changes in profits. Profit-volume-cost analysis uses three items of information to show how your profits change as sales revenues change: estimates of your sales revenue, your gross margin percentage, and your fixed costs.
For example: suppose that you're into manufacturing of high-end Motor bikes that sell for Rs100,000 each. Further suppose that each bike costs you Rs 40,000 in labor and material and that your shop costs Rs 160,000 a year to keep open.
You can calculate your gross margin percentage by using the following formula:
(Motor bike sales price - direct labor and material costs) / (Motor bike sales cost)This formula returns the result 0.6, or 60 percent. In this case, your fixed cost amount equals Rs160,000.With the fixed cost and gross margin percentage information, you can calculate the profits that different sales revenues produce. To make this calculation, you use the following formula:
profits = (sales x gross margin percentage) - fixed cost
The first table shows some examples of how you can use this formula to estimate the profits at different sales volume levels. At Rs200,000 in annual sales, for example, the business suffers a Rs40,000 loss. At Rs300,000 in sales, the business earns a Rs20,000 profit. At Rs400,000 in sales, the business earns an Rs 80,000 profit. It also shows the formula used to estimate profits.
| Sales | Formula | Result |
|---|---|---|
| Rs200,000 | (Rs200,000 x 0.60) – Rs160,000 | Rs40,000; a loss |
| Rs300,000 | (Rs300,000 x 0.60) – Rs160,000 | Rs20,000; a little profit |
| Rs400,000 | (Rs400,000 x 0.60) – Rs160,000 | Rs80,000; a nice profit |
The really interesting thing about this information is that profits often change more significantly than revenues change. Look at what happens when revenues increase from Rs300,000 to Rs400,000 — roughly a 33 percent increase. You see that profits quadruple from Rs20,000 to Rs80,000.
Here's another way to look at the estimated profits at the Rs300,000 and Rs400,000 sales levels: If sales drop by 25 percent from Rs400,000 to Rs300,000, profits decrease by 75 percent from Rs80,000 to Rs20,000.
This is a common experience of businesses. Relatively modest changes in sales revenue produce large — sometimes stunningly large — changes in profits. The reason that you perform profit-volume-cost analysis, therefore, is to understand how sensitive your business profits are to changes in sales volume. With this information, you can understand how important it is to prevent decreases in sales, and you can reap the rewards of increasing sales.
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