In part one of this series, we looked at marketing efficiency. In this post, we’ll look at break-even.
One sure-fire way to kill your startup is by running out of cash. The risk is greatest in the early days, before your company is profitable. That’s why you’ll want to pay close attention to break-even. That’s the point in time when cash from operations stops flowing out of your business, and starts flowing in.
If you are in the planning stage, estimate when you’ll reach break-even, and how many transactions per month you’ll need to get there, also known as break-even volume. Once your company is up and running, track your progress toward break-even, and consider it a critical early milestone.
To estimate when you’ll reach break-even, start by calculating the unit contribution, or margin, generated by one sale or transaction. To do that, figure out your revenues from one transaction, and subtract the costs linked directly to one transaction, aka “variable costs” (e.g. sales commissions and costs of producing the product, aka “cost of goods”).
Next, calculate your monthly overhead—operating costs that don’t vary directly with sales volume (e.g. rent, salaries, utilities, legal and accounting expenses, etc.). If you are still in the planning phase, project your monthly overhead for a future period, such as after 12 months.
Finally, divide your monthly overhead by your unit contribution. That will tell you how many units you’ll have to sell to cover your overhead, or break-even. When do you think you’ll reach that level of sales? The answers to those questions will tell you, and potential investors, more than most fancy long term projections.