After we learned what contribution margin and contribution margin ratio are we can use them in the CVP analysis to calculate break-even point for our Friends Corporation example. Recall that break-even is a situation when profits equal zero. This means that contribution in this case equals fixed costs only because:

Contribution = Fixed Costs + Profits = Fixed Costs + 0 = Fixed Costs

To calculate the break-even points in units, we can use the following formula:

Recall that contribution contributes towards (covers) fixed costs. Based on this, the above equation can also be read as "How many units do we need to sell to cover all fixed costs and have zero profit?"

To calculate the break-even point in dollars, we will use a similar formula, but will now apply the contribution margin ratio:

The above equation can also be read as "How much sales, in dollars, do we need to generate to cover all fixed costs and have zero profit?"

Using the above break-even formulas, the break-even sales for Friends Corporation can be computed as follows:

If the company produces 5,000 units, it has neither loss nor profit. We can check this calculation by determining the profit when 5,000 units are sold:

Profit = Sales - Variable Costs - Fixed Costs = 5,000 x $5 - 5,000 x $3 - $10,000 = 0

The company will suffer a loss if it produces less than 5,000 units and will generate profit if the production exceeds 5,000 units.

Amount of break-even sales in dollars can be determined as shown below:

The break-even sales in dollars can also be determined by multiplying the 5,000 units for break-even by sales price per unit: 5,000 x $5 = $25,000. As you can see, the result is the same.

Note that break-even amount of sales in units and dollars calculated using contribution margin equal the break-even amounts determined by the equation technique.