On today’s episode, I’m talking about how you can use a simple little formula to help you make better decisions.

So, what formula am I talking about? Well, it’s the breakeven formula. This came about in a conversation with a client today. We were talking about how much their marketing function costs them per month, which in this case was 85,000 pounds per month. They were trying to figure out what the level of output they needed from their marketing function in order for that marketing function to break even. You take the cost and divide it by the gross margin. This marketing function needs to generate at least 137,000 pounds in sales to cover the 85,000 pounds in investment per month that goes into that function.

This formula is so useful. You can use it when making decisions about just about anything in your business. If you want to figure out whether you should invest in a piece of equipment, take the cost of that piece of equipment per annum, divided by your gross margin, and that will give you the breakeven effectively per annum on that piece of equipment. Trying to figure out if you can afford that extra salesperson? Take the salesperson’s wage, divided by your gross margin, and it will give you how much turnover you need in order to justify having that extra salesperson in your business.

Such a useful formula, and I encourage you to use it when trying to make spending decisions in your business. Of course, you should also use this for your overheads each month. So, if you have overheads, for example, of 250,000 and your gross margin is 48%, you’ll get 520,000. So, in other words, if you do not generate at least five hundred and twenty thousand pounds each month in sales, then you will not meet your overheads and you will be unprofitable.

Now, the reason that I work out breakeven in this way is that your breakeven is very margin-sensitive. So, if you were to take that same company overhead figure of 250,000 per month and, instead of having a 48% gross margin, it’s a 40% margin, you’ll see that the breakeven amount shifts from 520,000 to something like 625,000. So, your breakeven is very, very margin-sensitive.

Have a play with this. It’s a great tool, it’s something that should be understood across your management team, and it’s something that should be used when making investment decisions and expenditure decisions in your business.

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