Many people go into business with a dream to make lots of money. The harsh reality is that in small business, making money is much easier said than done. The starting point is for business owners to understand their break-even point. Break-even analysis is a tool small business owners can use to understand when their business will be able to cover its expenses and begin to make a profit.

Here are five steps every small business owner should complete in order to understand their break even point:

1. Know your fixed costs. Fixed costs are those that remain the same regardless of your sales volume. Examples are rent, utilities, or payroll (if not directly related to sales). If you plan to pay yourself a draw or salary, remember to include it here.
2. Understand your variable costs as a percent of your sales. Variable costs are directly related to sales, typically expressed as a percent of sales. Examples are cost of goods sold, inventory, or direct labor.
3. Project realistic sales. This is the total dollars you expect to bring into your business. It is important to base this on what is really expected, not what is needed.
4. Determine average gross profit. Gross profit is the money left from each sale after paying direct costs of the sale. Direct costs are what you pay to provide the product or service. For example, a business makes an average of $100 per sale with an average cost of goods sold of $40, giving them a gross profit of $60 or 60%.
5. Calculate break-even point. The formula to calculate break even is monthly fixed costs divided by average gross profit percent. For example, a business has monthly average fixed costs of $2,000. Using the above example $2,000/.60=$3,300 is the monthly break-even point.

What can you do if your break-even point is higher than the projected sales? Determine which metrics can be changed to meet the projected break-even point. For example, reduce payroll, work from home rather than renting space, or find a less expensive source for direct costs. The goal is for the break-even point to be less than or equal to the projected sales producing a realistic financial business plan.

Becky Paulk is a certified professional bookkeeper and owner of Simplify Professional Services. Corporate trained and qualified, she is dedicated to small business enterprise and the personalized assistance they often require. Email your questions to Becky atbecky@simplifyprofessionalservices.com.