In the process of financial and production planning of the enterprise's activities for the future, the definition and analysis of such indicators as the break-even level and marginal profit are of particular importance.
Break even analysis
The break-even point is understood as such a level of production (sales) at which a zero level of profit is ensured, i.e. break even implies equality of total costs and revenues received. In other words, this is the marginal level of production, going down below which the company suffers losses.
The concept of the break-even point is well stated, so we will only briefly dwell on the main points of its definition. Let us dwell in more detail on the modifications of this indicator, taking into account the need to make expenses from profit and fulfill debt obligations.
Within the framework of determining the break-even level, all costs of the enterprise are divided into two groups: conditionally variable (change in proportion to changes in production volumes) and conditionally constant (do not change with changes in production volumes).
It should be noted that the division of costs into variable and fixed, especially with regard to overhead (overhead) costs, is rather arbitrary. In reality, there is a group of costs that contain components of both variable and fixed costs - the so-called mixed costs. The latter relate to variable costs in terms of the share of the variable component and to fixed costs in terms of the share of fixed costs.
According to PBU (rules accounting), the list and composition of variable and fixed overhead costs are established by the enterprise. In the classic version, the calculation of the break-even point is based on a simple ratio based on the balance of revenue, assuming zero profit. In value terms, for the production (sale) of diversified products:
Break Even Point = Fixed Costs / (1 - Share variable costs)
where, the share of variable costs \u003d Variable costs / Volume of production (sales)
In quantitative terms, for the production (sales) of mono- nomenclature (or averaged) products:
Break even point = Fixed costs / Invested income per unit of output
where, invested income per unit of output = Price - Variable costs per unit of output; fixed and variable costs are costs that are charged to the cost of production.
Accordingly, the break-even level calculated in this way reflects the level of production that must be provided to recover all costs that form the cost of production.
However, the break-even point calculated according to the above classical variant does not give a sufficiently complete picture of what level of production (sales) the company needs to provide in order to cover all necessary costs. Indeed, in practice, an enterprise must not only reimburse production costs, but also, for example, maintain facilities social sphere, pay off loans, etc. In order to take into account the need to compensate all running costs, the concept of "real break-even point" is introduced, which is calculated:
Real breakeven point = All fixed costs/ (1 - Share of variable costs)
where, share of variable costs = All variable costs / Volume of production
The break-even point calculated in this way reflects the level of production that must be ensured in order to compensate for all, and not just those included in the accounting cost, the necessary costs of the enterprise. In the case of existing debt obligations that need to be repaid within a certain period, the company must ensure the appropriate volume of production (sales) and incoming cash flows.
To take into account the need to calculate debt obligations, the concept of a debt break-even point is introduced:
Debt break-even point = Amount of required payments / (1 - Share of variable costs)
where, the amount of necessary payments = Fixed costs + Costs from profit + Current part of the debt; share of variable costs = All variable costs / Volume of production
The above debt break-even point takes into account the need to ensure both all current costs and the settlement of current debt, i.e. most fully reflects the required level of production (sales).
In reality, when calculating the required level of production at an enterprise, it is of interest to analyze and compare all the above break-even indicators and develop, based on their analysis, appropriate management decisions.
Marginal profit
In addition to the break-even level, an important indicator for financial and production planning is marginal profit. Under contribution margin refers to the difference between income received and variable expenses. Of particular importance is the marginal analysis in the case of multi-product production.
Unit Profit Margin = Price - Variable Costs
Marginal profit of a product = Marginal profit of a unit of a product * Volume of production of this product
The meaning of marginal profit is as follows. The formation of variable costs is carried out directly for each type of product. The formation of overhead (fixed) costs is carried out within the framework of the entire enterprise. That is, the difference between the price of a product and the variable costs of its production can be represented as a potential "contribution" of each type of product to the overall final result of the enterprise.
Or, contribution margin is the marginal profit that an enterprise can receive from the production and sale of each type of product. With a multi-product release, the analysis of the assortment in terms of marginal profit (the so-called marginal analysis) makes it possible to determine the most profitable types of products in terms of potential profitability, as well as to identify products that are not profitable (or unprofitable) for the enterprise to produce.
That is, marginal analysis allows you to rank the assortment range in ascending order of the "marginal (potential) profitability" of various types of products and develop appropriate management decisions regarding changes in the range of output. Complementary to marginal profit is the indicator of marginal profitability, calculated as:
Marginal profitability = (Marginal profit / Direct costs) * 100%
The marginal profitability indicator reflects how much income an enterprise receives for the invested ruble of direct costs, and is very indicative for comparative analysis various types of products. It should be noted that marginal analysis is, to some extent, a formalized approach to studying the "profitability" of the production of a particular type of product.
Its main advantage is that it allows you to see the overall picture of potential profitability, compare different types (groups) of products in terms of production profitability. But in order to make decisions on changing the structure of output, more in-depth studies are needed, focused mainly on the future.
These are, for example, stability, reliability and the possibility of expanding sales markets, even if not the most profitable products, the possibility of improving the quality and increasing the competitiveness of certain types of products, etc. In any case, the efforts of the enterprise should be aimed at optimizing the product range, maximizing the production of the most profitable products and reducing the output of unprofitable products. The total amount of marginal profits for all types of products produced is the marginal profit of the enterprise.
Marginal profit is a source of covering the company's overhead costs and profits. Then the profit that the company can count on is determined by:
Profit = Marginal Profit - Overhead
That is, the increase in profit is achieved by maximizing the marginal profit (or optimizing the assortment) and reducing overhead costs.
In general, both break-even analysis and marginal analysis are important tools in the process of planning production and financial flows and are increasingly being used in the practice of enterprises.
Margin- the difference between the initial and final cost, interest rate, sale price and purchase price, price and cost, is used to determine the profitability.
To determine the effectiveness economic activity, the purpose of which is to maximize , the main analytical indicators are:
- marginal income (indicator of profitability),
- marginal (payback indicator).
Marginal profit or marginal income is the value obtained by subtracting from gross income variable costs, therefore, the margin is a source of compensation for fixed costs and profit generation. The calculation is made according to the following formula:
Margin (profit per unit of output) = Selling Price - Cost
Determining marginal profit helps to establish the optimal size of the trade margin, sales volume and level of variable costs even at the planning stages. For calculation marginal income as a percentage use profitability ratio (marginality):
Margin Ratio (KP) = Margin / Selling Price
Marginal profitability, in turn, is the ratio of marginal income and cost:
Marginal profitability = Marginal profit / Direct costs
It can be calculated both on a gross basis and per unit of goods (works, services).
Thus, by itself, the gross margin does not reflect the financial position of the enterprise, but is used for calculations in the analysis of economic activity. At the same time, in domestic practice (Russia, Belarus) there is a difference from the European system for calculating the gross margin.
In the post-Soviet space, the gross margin is calculated as the difference between gross revenue and total costs, expressed absolute value. In Europe, this figure is a percentage of total sales revenue, minus direct costs, and is expressed as a percentage only.
When determining the amount of profit, depending on different options for the volume of output or sales, the calculation of the average marginal income is used. It is equal to the difference between the price per unit of product and the average variable costs of its manufacture and / or promotion. This indicator reflects the share per unit of production in the coverage fixed costs and making a profit.
Holding margin analysis promotes efficient distribution production possibilities and limited working capital, helps to optimize the composition and volume of production and sales of products, analyze the activities of individual divisions of the enterprise, and is also an integral part of pricing. In a global sense, based on the results of marginal analysis, it is possible to make a decision either to conclude additional agreements, or about the closure of production or one of its areas even during planning, as it allows you to calculate the break-even point and visually see the situation with the profitability of various types of products.
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Marginal profit is the difference between the proceeds from the sale of products that were produced by the enterprise and the costs that appeared as a result of the creation of these products.
A little about margin
Very often it is also called the coverage amount. This can be explained by the fact that it is the revenue that the company receives to cover wages and to create the so-called permanent profit. That is, if the marginal income (profit) is higher each time, then this means that the cost recovery will be carried out faster, and the company will receive more net profit.
Marginal income in Russia
AT Russian Federation the term "marginal profit" is not used as often. With some stretch, we can say that gross profit is practically the same thing, because the meaning of these two operations is very similar. But they also have some differences.
Gross income when calculating uses non-productive and production costs, but in the marginal approach they are considered more elastic. At the same time, such income is calculated both per unit of sold products and per unit of output. Why is it necessary to calculate it? To get the most accurate information about how much profit each unit of output brings to the company.
At the same time, in Russia there is another important term that is directly related to the money received - the marginal profit of the enterprise. It includes all income from the sale and production of various products.
Very often marginal profit is incorrectly identified with the so-called direct costing system. But they have significant differences that experts in this field are aware of. As a rule, on the territory of the Russian Federation, marginal income is used in the market and industrial sphere of entrepreneurship, because it is here that it brings the maximum result.
When can a company be considered to be making money?
In the event that the analysis of marginal profit shows that the income of the enterprise covers any variable costs quite well, we can say that profit here exists at a high level. At the same time, in the analysis process, it is necessary to take into account the entire range of manufactured goods. Marginal profit also helps to understand which types of products are the most profitable for production in terms of sales, and which are unprofitable or completely unprofitable.
What determines marginal profit and how can it be increased?
As a rule, it primarily depends on the variables on modern market indicators.
This is the cost of manufacturing one unit of goods and the price at which this product can be sold.
In practice, marginal profit can increase. How to get more income?
First, you can mark up your product range several times more. Secondly, you can produce and, accordingly, sell more product. But it is best, of course, to combine these two methods, then you will get higher profits. Of course, these methods seem simple, but sometimes they are not so easy to implement.
First of all, this is due to price competition, which nevertheless dictates its own conditions in setting the price for a particular product. Sometimes it happens that it is impossible to raise the cost of production higher. Also, limits on the cost are often determined by the state, especially for basic necessities. In addition, it often happens that a large number of cheap products on the market brings a decline in their quality. This, in turn, may lead to the fact that there will be no demand for it.
Determine marginal profit
When an enterprise produces several products at the same time, then marginal profit and its calculation are a very important part. operational analysis. It should also be remembered that the larger the volume of products a company produces, the less cost it will receive per unit of goods. It works and vice versa. Since this necessarily includes the calculation of such fixed costs as renting premises, paying taxes, and so on, the marginal profit, the formula of which
- MP \u003d PE - Zper,
shows how much should cover the costs of production. In this formula, MP shows the marginal profit, NP - the net profit of the enterprise, and Zper - these are variable costs. If your income only covers the costs of the company, then it is at the break-even point.
Why do you need to know what marginal profit your company has?
First of all, this formula will allow you to understand which product you produce is the most in demand on the market in this moment. It is on its manufacture that you need to focus in order to get a sufficiently large income. By calculating the margin for each product, you can get an almost complete picture of your company's performance and profitability.
The negative aspects of this method
- There is a linear relationship between costs and revenues, which means that even with an increase in the volume of goods produced, the price in the market may not change. At the same time, at certain points, the cost can also decrease or increase very sharply.
- Fixed and variable costs, which can be considered in terms of relation to the costs per unit of goods, may have other values in terms of conversion. For example, constants can become variables, or vice versa. In this case, the constants will directly depend on the volume of output, and the variables at the moment will not change. This may slightly confuse the information received, which gives us marginal profit (including its calculation).
- Influencing factors will not change. This includes technology, scale of production, labor productivity, labor rates, selling price of products. That is, only volume can be a variable factor.
- Production and sales must be equal in volume.
Increasing marginal income is one of the main priorities of any developing enterprise. is the baseline financial activities. this indicator as the difference between the total revenue from the sale of goods and variable costs.
Variable costs are costs that are directly proportional to the volume of output. Therefore, if production stops, variable costs also disappear. They include the purchase of raw materials for the production of goods and wage workers (if it is not fixed and depends on the volume of output).
You can also calculate the average marginal income of the enterprise. To do this, the average value of variable costs is subtracted from the product price. Average contribution margin determines replacement share specific unit fixed cost products.
What determines marginal income?
Exists great amount a variety of factors that affect the increase in marginal profit. Among them are internal (competent management, level technological process) and external (the level of economic well-being of consumers, the market situation). This means that even the correct management of an enterprise is not in itself a guarantee of its economic prosperity.
Despite factors that are beyond the control of the entrepreneur, there are no fewer ways to increase marginal income. The margin itself is determined by two indicators - this is the cost of selling the product and the amount of variable costs.
Marginal profit can be maximized by the following methods:
- by lowering the price.
- Reducing the level of costs by increasing the volume of sales.
- Change the volume of output, adjusting the amount of fixed and variable costs accordingly.
Despite the apparent simplicity, solving this problem is not an easy task. Given the large number of factors, it is very difficult to find the optimal method to maximize the efficiency of the enterprise.
The economy knows three levers of influence that allow you to influence the increase in marginal income. In order to find rational solution, you should use them all: these are management personnel, products and work with buyers (clients).
Marginal profit is directly dependent on the performance of sales managers. Analysis of the results of their work makes it easy to identify strong and weak players in the team. A rational conclusion from the current picture will be a decision on the redistribution of forces. The most effective employees should be assigned to difficult areas in order to increase sales. Weak employees should be sent to advanced training courses or fired.
In the process of analysis, it should be taken into account that the working conditions of employees can vary significantly. Work experience, of course, also plays an important role, but the distribution of clientele, in the first place, will affect the performance of any manager. Obviously, a salesperson who works with VIP clients has a significant chance of success compared to a colleague who is less fortunate.
On practice
For a company producing different types products, it is important to distribute the entire range of products in accordance with the marginal profit ratio of each. The profit ratio is defined as the ratio of the specific marginal profit from a unit of a certain product to the proceeds from the sale of a unit of the same product.
In other words, it is one of the most important tools in the arsenal of any entrepreneur, as it determines the percentage of the total revenue that the businessman will receive as a margin. Therefore, the higher the coefficient, the more profitable it is for the company to sell this product.
The higher the marginal profit ratio, the more profitable it is for the company to sell this product.
However, before making a choice on which product to bet on, it is useful to compare products with their market rating. Not every product with a high margin ratio is profitable, as it may not meet the standards of competitiveness. The two most important characteristics of the products sold - and the marginal index - are decisive when deciding which type of product is most profitable for sales.
A number of conclusions can be drawn from this:
- Non-competitive products with a low marginal profit coefficient are excluded from production.
- Competitive goods with a high coefficient must be promoted, as well as increase the volume of their production.
- It makes sense to find out and eliminate the reasons for the low margin ratio of other competitive products.
- The analysis of products with average indicators is relevant in order to develop ways to increase them.
Work with clients
It is equally important to develop a strategy for working with clients. The sum of sets of various indicators can be decisive for choosing the most beneficial nature of further working relations:
- When working with a client in unfavorable conditions for the company, you should look for ways to maximize marginal profitability or terminate the relationship with this person.
- Customers with high margins but low volume deliveries should be encouraged to purchase large batches of finished products.
- The circle of customers, characterized by a large volume of purchases, needs increased attention.
It is necessary to increase the number of customers with large volumes of orders and retain existing ones. An increase in marginal income not only ensures the growth of the company's total gross profit, but also systematizes the entire course of the enterprise in the most rational way. This allows not only to significantly reduce fixed costs, but also to maximize the efficiency of the entire production as a whole.
A lot of people come across the concept of "margin", but often do not fully understand what it means. We will try to correct the situation and give an answer to the question of what is margin in simple terms, and also we will analyze what varieties are and how to calculate it.
The concept of margin
Margin (eng. margin - difference, advantage) is an absolute indicator that reflects how the business functions. Sometimes you can also find another name - gross profit. Its generalized concept shows what is the difference between any two indicators. For example, economic or financial.
Important! If you are in doubt about how to write - walrus or margin, then know that from the point of view of grammar, you need to write through the letter "a".
This word is used in various fields. It is necessary to distinguish between what margin is in trading, on stock exchanges, in insurance companies and banking institutions.
Main types
This term is used in many areas of human activity - there are a large number of its varieties. Consider the most widely used.
Gross Profit Margin
Gross or gross margin is the percentage of total revenue left after variable costs. Such costs can be the purchase of raw materials and materials for production, the payment of wages to employees, spending money on selling goods, etc. It characterizes common work enterprise, determines its net profit, and is also used to calculate other quantities.
Operating profit margin
Operating margin is the ratio of a company's operating profit to its revenue. It indicates the amount of revenue, as a percentage, that remains with the company after taking into account the cost of goods, as well as other related expenses.
Important! High performance indicates good performance of the company. But you should be on the alert, because these numbers can be manipulated.
Net (Net Profit Margin)
Net margin is the ratio of a company's net profit to its revenue. It displays how many monetary units of profit the company receives from one monetary unit of revenue. After its calculation, it becomes clear how successfully the company copes with its expenses.
It should be noted that the value of the final indicator is affected by the direction of the enterprise. For example, firms in the field retail, usually have rather small digits, and large ones manufacturing enterprises have pretty high numbers.
Interest
Interest margin is one of the important performance indicators of a bank, it characterizes the ratio of its income and consumables. It is used to determine the profitability of loan transactions and whether the bank can cover its costs.
This variety is absolute and relative. Its value can be influenced by inflation rates, various kinds of active operations, the ratio between the bank's capital and resources that are attracted from outside, etc.
variational
Variation margin (VM) is a value that indicates the possible profit or loss on trading floors. It is also a number by which the volume can increase or decrease. Money taken on bail during a trade transaction.
If the trader correctly predicted the market movement, then this value will be positive. Otherwise, it will be negative.
When the session ends, the running VM is added to the account, or vice versa - it is canceled.
If a trader holds his position for only one session, then the results of the trade transaction will be the same with the VM.
And if a trader holds his position for a long time, it will add up daily, and ultimately its performance will not be the same as the result of the transaction.
Watch a video about what margin is:
Margin and Profit: What's the Difference?
Most people tend to think that the concepts of "margin" and "profit" are identical, and cannot understand what is the difference between them. However, even if insignificant, the difference is still present, and it is important to understand it, especially for people who use these concepts on a daily basis.
Recall that margin is the difference between a firm's revenue and the cost of the goods it produces. To calculate it, only variable costs are taken into account without taking into account the rest.
Profit is the result of the financial activity of the company at the end of any period. That is, these are the funds that remain with the enterprise after taking into account all the costs of production and marketing of goods.
In other words, the margin can be calculated in this way: subtract the cost of goods from revenue. And when profit is calculated, in addition to the cost of goods, various costs, business management costs, interest paid or received, and other types of expenses are taken into account.
By the way, such words as “back margin” (profit from discounts, bonus and promotional offers) and “front margin” (profit from markup) are associated with profit.
What is the difference between margin and markup
To understand the difference between margin and markup, you must first clarify these concepts. If everything is already clear with the first word, then not quite with the second.
The markup is the difference between the cost price and the final price of the product. In theory, it should cover all costs: for production, delivery, storage and sale.
Therefore, it is clear that the margin is an allowance to the cost of production, and the margin just does not take this cost into account during the calculation.
- To make the difference between margin and markup more visual, let's break it down into several points:
- Different difference. When they calculate the margin, they take the difference between the cost of goods and the purchase price, and when they calculate the margin, they take the difference between the company's revenue after sales and the cost of goods.
- Maximum volume. The margin has almost no limits, and it can be at least 100, at least 300 percent, but the margin cannot reach such figures.
- The basis of the calculation. When calculating the margin, the company's income is taken as the base, and when calculating the margin, the cost is taken.
- Conformity. Both quantities are always directly proportional to each other. The only thing is that the second indicator cannot exceed the first.
Margin and markup are quite common terms used not only by specialists, but also ordinary people in everyday life, and now you know what their main differences are.
Margin Formula
Gross margin reflects the difference between revenue and total costs. The indicator is necessary for the analysis of profit taking into account the cost and is calculated by the formula:Basic concepts:
GP(grossprofit) — gross margin. Reflects the difference between revenue and total costs.
CM(contribution margin) - marginal income (marginal profit). Difference between sales revenue and variable costs
TR(totalrevenue) - revenue. Income, the product of the price of a unit of production and the volume of production and sales.
TC(totalcost) - total costs. Cost price, consisting of all costing items: materials, electricity, wages, depreciation, etc. There are two types of costs - fixed and variable.
FC(fixedcost) — fixed costs. Costs that do not change with changes in capacity (production volumes), for example, depreciation, director's wages, etc.
VC(variablecost) - variable costs. Costs that increase / decrease due to changes in production volumes, for example, wages of key workers, raw materials, materials, etc.
GP=TR-TC
Similarly, the difference between revenue and variable costs will be called Marginal income and is calculated by the formula:
CM=TR-VC
Gross margin ratio , equal to the ratio of the gross margin to the amount of sales revenue:Using only the indicator of gross margin (marginal income), it is impossible to estimate the total financial condition enterprises. These indicators are usually used to calculate a number of other important indicators: the contribution margin ratio and the gross margin ratio.
K VM = GP / TR
Similarly Marginal income ratio is equal to the ratio of marginal income to the amount of sales revenue:
K MD = CM / TR
It is also called the marginal return rate. For industrial enterprises the margin rate is 20%, for trading - 30%.
Interest margin shows the ratio of total costs to revenue (income).The gross margin ratio shows how much profit we will receive, for example, from one dollar of revenue. If the gross margin ratio is 22%, this means that every dollar will bring us 22 cents of profit.
This value is important when it is necessary to make important decisions on the management of the enterprise. With its help, you can predict the change in profit during the expected increase or decrease in sales.
GP=TC/TR
or variable cost to revenue:
CM=VC/TR
As we have already mentioned, the concept of "margin" is used in many areas, and perhaps that is why it is difficult for an outsider to understand what it is. Let's take a closer look at where it is used and what definitions give.
In economics
Economists define it as the difference between the price of a good and its cost. That is, in fact, this is its main definition.
Important! In Europe, economists explain this concept as a percentage rate of the ratio of profit to sales of products at a selling price and use it in order to understand whether the company's activities are effective.
In general, when analyzing the results of the company's work, the gross variety is most often used, because it is it that has an impact on net profit, which is used for the further development of the enterprise by increasing fixed capital.
In banking
In banking documentation, you can find such a term as credit margin. When a loan agreement is concluded, the amount of goods under this agreement and the amount paid in fact to the borrower may be different. This difference is called credit.
When applying for a secured loan, there is a concept called the guarantee margin - the difference between the value of the property issued on security and the amount of funds issued.
Almost all banks lend and accept deposits. And in order for the bank to have a profit from this type of activity, different interest rates are set. The difference between the interest rate on loans and deposits is called the bank margin.
In exchange activities
The exchanges use a variational variety. It is most often used on futures trading platforms. From the name it is clear that it is changeable and cannot have the same value. It can be positive if the trades made a profit, or negative if the trades turned out to be unprofitable.
Thus, we can conclude that the term "margin" is not so complicated. Now you can easily calculate it using the formula different kinds, marginal profit, its coefficient and most importantly, you have an idea in what areas this word is used and for what purpose.