Break-even

accounting
Another management tool that inadvertently encourages
growth for growths sake is break-even accounting. Like
marginal income accounting, the theory is that certain
elements of overhead cost vary with the volume of operations,
while others, which are called fixed costs, do not. The sale
price is set to provide for material and labor costs, plus
variable overhead costs, plus an additional increment to allow
for fixed overhead costs and profit. When the sales volume is
high enough in a given period to absorb all variable costs as
well as the lump of fixed overhead costs, you have reached the
break-even point. The margin above variable costs on
additional sales goes entirely to profit, because all the fixed
overhead costs have already been taken care of.
No wonder a manufacturer gloats about a high-volume month,
because, although he makes no money and actually loses until
the volume reaches the break-even level, his profit on volume
above the break-even point is disproportionately large.
The fallacy of break-even accounting is the assumption that
expenses are easily divisible into fixed and variable. Overhead
is rarely as fixed as accountants are inclined to think, except for
very short periods. In any long-range analysis of a business,
there is no such thing as fixed overheadit is all variable to
some degree, even such items as rent, heat, light and power,
depreciation and amortization, professional services, and
executive salaries. The terms variable overhead and fixed
overhead would be better called overhead that varies
immediately with the level of activity and overhead that
varies in the long run with the level of activity. more
Except in the very short run, there really are few, if any, fixed
expenses. If you lease a 100,000 square-foot plant for a ten-
year term, cost accountants will normally treat your rent as a
fixed expense. But is it really? If you dont have enough space,
you can rent more and thus increase that expense. If you have

too much space, you can sublet part of the space, or if that is
impractical, you can even buy your way out of the lease and
move to a smaller building. Thus rent expense can go up or
down.
The danger is that some managers tend to pay no attention to
so-called fixed expenses. Even worse, they assume that they
are stuck with them and see an increase in volume as the only
means to pay for them.
One able executive of a large merchandising company recently
said: Our biggest problem is sales. Our industry has high fixed
costs, and we have to promote hard to maintain a rate of sales
to cover these costs. Securing more sales is far and away our
No. 1 problem. This is a typical, mistaken business attitude:
assuming that the cost structure is a given and that the
company must grow to cover all the overhead.