3. Break-even analysis

To be profitable, a firm has to recover its costs. These costs include both its fixed and its variable costs. One way that a firm evaluates at what stage it would recover the invested costs is to calculate how many units or how much in dollar sales is necessary for the firm to earn a profit.

Petrox Oil Company is considering a project that will have fixed costs of $12,000,000. The product will be sold for $41.50 per unit, and will incur a variable cost of $10.75 per unit.

Given the cost structure of Petrox, it will have to sell405,620 units to break even on this project (QBEQBE).

Marketing and sales director of Petrox Oil Company doesnt think that the firms market is big enough for the firm to break even. In fact, she believes that the firm will be able to sell only about 150,000 units. However, she also thinks that the demand for Petroxs product is relatively inelastic (so the firm can increase the sales price without significantly decreasing the volume of product sold).

Assuming that Petrox can sell 150,000 units, what price must it set to break even?

$99.83 per unit

$86.21 per unit

$108.90 per unit

$90.75 per unit

What affects the firms operating break-even point?

Several factors affect a firms operating break-even point. Based on the scenarios described in the following table, indicate whether these factors would increase, decrease, or leave unchanged a firms break-even quantityassuming that only the listed factor changes and all other relevant factors remain constant.

	Increase	Decrease	No Change
The firm depreciates its fixed assets more quickly over a shorter life.
The variable cost per unit decreases.
The amount of debt increases, causing the firms total interest expense to increase.

When other things are held constant, the higher a firms operating leverage, the will be its business risk.