BREAK EVEN ANALYSIS

ROI(RETURN ON INVESTMENT)
ECONOMIC ANALYSIS
New product development

Submitted to : Submitted by:

Mr. Amit Chopra. Shilpa
Shikha
Gurpreet
Neha
Rajnish
 Break Even Point
• One of the most common tools used in evaluating the
economic feasibility of a new enterprise or product.
•  The break-even point is the point at which revenue is
exactly equal to costs. At this point, no profit is made
and no losses are incurred.
• It can be expressed in terms of unit sales or rupees
sales. That is, the break-even units indicate the level
of sales that are required to cover costs. Sales above
that number result in profit and sales below that
number result in a loss.
 Types of Costs
• Break-even analysis is based on two types of costs:
 Fixed costs
 Variable costs
Fixed costs are overhead-type expenses that are
constant and do not change as the level of output
changes.
Variable expenses are not constant and do change
with the level of output. Because of this, variable
expenses are often stated on a per unit basis
 For example
• If a business sells less than 200 tables each
month, it will make a loss, if it sells more, it
will be a profit. With this information, the
business managers will then need to see if
they expect to be able to make and sell 200
tables per month.
If they think they cannot sell that much, to ensure viability they could:

• Try to reduce the fixed costs (by renegotiating

rent for example, or keeping better control of
telephone bills or other costs)
• Try to reduce variable costs (the price it pays
for the tables by finding a new supplier)
• Increase the selling price of their tables.
 Break Even Point (BEP)
• Point of Zero Profit
Cost of the firm = Revenues
ASSUMPTIONS :
• Sales price of products is assumed constant.
• All costs are either perfectly variable or absolutely fixed
over the entire period of production.
• Volume of production = volume of sales
• Assumption of stable product mix.
• All revenue is perfectly variable with the physical volume
of production.
 Break Even Analysis
• It is simple, easily understandable and quite
inexpensive.
• Focuses attention on fundamental
relationships.
• Can be used for various purposes.
• Suitable to those industries which are not
subject to fast change in technology and input
prices.
 Uses
• Helps in determining the optimal level of output.
• Make or buy decisions.
• Helps in plant expansion/contraction decisions.
• Finding the selling price which would prove most profitable
to the firm.
• Aid Forecasting and Planning

• If you know the break-even point, you have a

definite target to shoot for and can put a step-by-
step strategic plan together to achieve the goal.
 Limitations
• It’s accuracy depends on the accuracy of the data
used.
• Forecasting the future is difficult, especially long
term.
• It assumes there is simple relationship between
variable cost and sales.
• Sales income does not necessarily rise in relation
to sales volume.
• External constraints also to be recognized.
 Limitation
• The major disadvantage with break-even analysis
is that demand is assumed to be inelastic.
• It suggests that a higher price will make the
revenue curve steeper and therefore lower the
BEP.  However in reality there will often be a
maximum price that customers will pay.  This will
vary by customer and be dependent on many
factors including the cost of switching and the
availability of alternatives.
Break Even Chart
 Margin of Safety
• Margin of safety = Actual Sales – Sales at BEP
• Margin of safety= Profit
P/V Ratio
• It may be expressed in monetary terms (value) or as a
number of units (volume).
• A large margin of safety indicates the soundness and
financial strength of business.
• Contribution=Sales-V.C
• amount contributed from sales after variable cost to cover
up the fixed cost.
 Break Even Point for a New Project

In the case of a new project where the capacity utilization level is

expected to rise gradually over a period of 3-4 years, fixed costs are
normally planned in such a way that they are stepped up as and when
necessary to meet the projected increases in capacity utilization.

For example, if in the Estimates for the third year of production of XYZ
Ltd.,
A = Sales Realization (in Rs.)
B = Variable Costs (Raw materials, consumable stores, power, fuel, water
etc., selling expenses)
C = Fixed Costs (Wages and salaries, repairs, maintenance, rent etc.)

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And D= Contribution (A-B)
Then,
Break – even point (in terms of volume of production) =
Fixed Costs X Expected Production in the year
Contribution

Break – even point (in terms of percentage of installed capacity) =

Fixed Costs X Expected capacity utilization in the year
Contribution

Break – even point of sales (in terms of rupees) =

Fixed Costs X Expected sales realization in the year
Contribution

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 A Product’s Price Shouldn’t be Based Solely
on Break Even Analysis 
• Before explaining the process of using the break even calculation
to determine selling price, it should be noted that companies
should really use market based information to determine the
price of a given product.
• Other factors include the product’s unique features & benefits,
its quality, and its price relative to value etc. Determining the
break even price should really be used to have an idea of what
price is needed to cover costs – but, it shouldn’t be the only
method used to set the price of a product.
• That should come from understanding the price point
customers are willing to purchase at, the company’s market, and
its competition’s product offering.
 Analysis
• Analysing the BEP can help to determine
whether a new product has enough critical
mass to make a profit and is feasible to be
launched. It can also be used to support
business cases where funding is needed by
demonstrating that a product can be made
and sold profitably.
 RELIANCE RETAIL
• Reliance Retail is expecting to break even at
the store level in all cities except Mumbai by
September following six months of stepped up
efforts at reducing cost and increasing
footfalls at the stores, a senior company
executive, said “We will be able to generate
cash at our stores by September, except in
Mumbai, where real estate cost for our stores
is still high,”
• Break-even points serve as important markers of
indicators of the financial success or failure of any given
venture.
• Deals that fail to reach a break-even point are generally
considered to be a failure, and care will be taken before
investing more funds into the stock or product in question.
• At the same time, the break-even point can also be a
strong indicator of a sound financial investment, especially
in situations where the point of breaking even is reached
and exceeded in a relatively short time.
 ROI (RETURN ON INVESTMENT)
• (ROR), also known as return on investment (ROI), rate
of profit or sometimes just return, is the ratio of
money gained or lost on an investment relative to the
amount of money invested.
• The amount of money gained or lost may be referred
to as interest, profit/loss, gain/loss, or net income/loss.
• The money invested may be referred to as the asset,
capital, principle, or the cost basis of the investment.
• ROI is usually expressed as a percentage rather than a
fraction.
 ROI of the new product development?

New product development can be very costly, especially if you don’t

understand your “ROI”, or “Return On Investment”. Some questions to
consider include:
• What is the cost compared to the retail value of the product or service?
• How will you know when your cost of creating the product will be paid for
by revenue generated from selling the product?
• If you have to tweak the product to make it more viable, how will that
affect your ROI?
 
• Remember also to consider manpower, equipment, tools, production,
manufacturing, distribution, advertising, marketing, sales, and potential
returns when considering the total cost of the product. All of these items
weigh in to the true cost of product development, and need to be considered
when budgeting for a new project.
 FORMULA
• RETURN ON INVESTMENT (ROI)
 
• ROI = Net operating income (NI)
Average operating assets (I) 
• OR:
 
• ROI = (NI/Sales) x (Sales/Assets)
= Return on Sales x Turnover
 
 ADVANTAGES OF ROI

• It encourages managers to pay careful

attention to the relationships among sales,
expenses, and investment.
• It encourages cost efficiency.
• It discourages excessive investment in
operating assets.
 DISADVANTAGES OF ROI

• ROI discourages managers from investing in

projects that would decrease a division’s ROI
but which would increase the profitability of
the company as a whole.
• ROI encourages mangers to focus on the
short-run at the expense of the long-run
Although the return on investment is widely used in evaluating performance,
it is not a perfect tool. The method is subject to
the following criticism :
• 1. Just telling managers to increase ROI may not be enough.
Managers may not know how to increase ROI; they may
increase ROI in a way that is inconsistent with the company's
strategy; or they may take actions that increase ROI in the short
run but harm company the long run (such as cutting back on
the research and development).
• This is why ROI is best used as part of a balanced scorecard. A
balanced scorecard can provide concrete guidance to
managers, making it more likely that action taken are consistent
with the company's strategy and reducing the likelihood that
short-run performance will be enhanced at the expense of
long-term performance.
• . A manager who takes over a business segment typically
inherent many committed costs over which the manager
has no control. These committed costs may be relevant in
assessing the performance of the business segment as an
investment but make it difficult to fairly assess the
performance of the manager relative to other managers.
• 3. A manager who is evaluated based on return on
investment (ROI) may reject investment opportunities that
are profitable for the whole company but that would have
a negative impact on the manager's performance
evaluation.
 ECONOMIC ANALYSIS
• What Economic Analysis of new Product
development?
• Ans: Economic analysis is an evaluative
process to understand the attractiveness and
future of the new product.
What are the purposes of Economic Analysis?

• Ans: The economic analysis serves the

following purposes:
• To understand the financial impact of the
launch of the new product on organization
financial health.
• To ascertain the sales revenue, costs and profit
margins, return on investment etc.
 Explain market Potential for new product?

• Ans: Market potential for a product suggest

the expected consumer market for the given
product.
• Like The potential market for baby food
product is number of infants, the potential
market for fairness cream for men is the male
of age group 15 to 35yrs.
 Explain market demand for new product?

Ans: The market demand for a product is the total volume of sale in a given
market in a given marketing environment.
The market demand for new product is as follows:

• If similar product already present in the market, chances of estimating

sales or market demand is much easier.

• If the product is an innovative product then accessing market demand is

very difficult as no previous market idea about acceptance and rejection
of the new product.

• The market demand for the improved and modified products is

predictable.
Explain the sales estimation in context of new product?

• Ans: Estimating sales of new product is an

important part of economic analysis.
• The company should estimate the average
sales of the new product in different stages of
its PLC.
• 2. Forecasting via Awareness-trial-repeat Purchase.
• This method can be learnt with an example.
• Let’s say the market size is 10000customers.
• Awareness rate is 40% i.e. 4000 customers.
• Trial is the 50% of aware ones I.e. 2000 customers.
• Repeat purchase is 70% of those who tried i.e.1400
customers.
• Forecasting via Mathematical Models
• The sales is forecast equal to the .percentage of market
share.
 What is Break even Analysis?

• Ans: In Break even Analysis a marketer estimates that

how many units of goods to be sold to reach break
even, or no profit, no loss situation with the given price
and cost structure.
• The formula used to determine the break eve analysis
is FC/1-VC/SR where
• FC is Fixed Costs like land, machine, Technology etc
• VC is Variable costs Office maintenance, wage etc.
• SR is Sales revenue total value of sales in monetary
terms.
RELIANCE MEDIA BREAK EVEN

VIDEO
• Systematic approach to determining the optimum
use of scarce resources, involving comparison of two
or more alternatives in achieving a specific objective
under the given assumptions and constraints. It
takes into account the opportunity costs of
resources employed and attempts to measure in
monetary terms the private and social costs and
benefits of a project to the community or economy.
• In the 1970s and early 80s, Coke
began to face stiff competition
from other soft drink producers.
• To remain in the number one
spot, Coke executives decided to
cease production on the classic
cola in favor of New Coke.
• The public was outraged, and
Coca-Cola was forced to re-
launch its original formula
almost immediately.
• Lesson learned -- don't mess
with success.
• Colgate decided to use its
name on a range of food
products called Colgate's
Kitchen Entrees.
• The idea must have been that
consumers would eat their
Colgate meal, then brush their
teeth with Colgate toothpaste.
The trouble was that for most
people the name Colgate does
not exactly get their taste buds
tingling.
• Apple debuted this PDA
device in 1993.
• It flopped partially because
of its high price ($700 or
more), bulkiness and the
ridicule it received from talk
show comedians and comic
strips like 'Doonesbury'
which focused on the
supposed inaccuracy of the
handwriting recognition.
• Harley Davidson Perfume
• Harley-Davidson fans are known
as very loyal customers. However,
even the beloved motorcycle
brand can go too far. T-shirts and
cigarette lighters were one thing,
but when the company started to
make aftershave and perfume,
fans were not impressed. As the
saying goes, less is more, and
Harley-Davidson had spread itself
too thin. Or maybe people just
weren't too keen on the idea of
smelling like a motorcycle.
• THANK YOU