Mathematical Finance

UNIT V

Mathematics of the Break-Even Point and Leverage

1. Break-Even Analysis

2. Leverage

Unit V Summary

List of Formulas

Exercises for Unit V

1	Break-even Analysis

Break-even analysis is an important technical tool for business performance and profit planning that utilizes restructuring the fundamental relationships between costs and revenues. It is also called cost-volume profit analysis. It offers the business planner or manager a plausible approximation of the point when profits start to be collected. This point occurs on the realization of the stage in which the total cost of production has been recovered by revenues from product sales. Break-even analysis is therefore, a process to determine the amount of products that must be produced and sold before any profit can be earned. It can also be the determination of the amount of revenue that can be collected before earning any profit. The reliance on finding the revenue instead of the production size can be more practical and convenient if the firm produces or sells multiple products. For example, General Motors can easily determine how many Chevy Malibus should be sold before that plant begins to earn profits, but this method cannot easily be used for Wal-Mart because Wal-Mart stores sell tens of thousands of products. It is, therefore, more appropriate to determine how much sales revenue should be collected before a certain Wal-Mart store begins to earn profits.

Technically, the break-even analysis is to find the ...