The concept and calculation of revenue, fixed and variable costs, total costs, profit and loss, interest, the break-even level of output and the margin of safety; and the interpretation of break-even diagrams, including the impact of changes in revenue and costs.

What this dot point is asking

Edexcel wants you to calculate and interpret the core finance figures a start-up must understand: revenue, costs (fixed and variable), total costs, profit and loss, interest, the break-even level of output and the margin of safety, and to read a break-even diagram.

Revenue, costs and profit

Revenue (also called sales revenue or turnover) is the money coming in from sales. If a shop sells $200$ items at $5$ each, revenue is $200 \times 5 = 1{,}000$. Costs split into two types: fixed costs such as rent stay the same whether the business sells one unit or a thousand, while variable costs such as materials rise as output rises. Total cost adds the two together. Profit is what is left when total costs are taken from revenue; if total costs are larger, the result is a loss. Interest is the price of borrowing: a business repaying a loan pays back the amount borrowed plus interest.

Break-even

The key idea is contribution: each unit sold contributes its selling price minus its variable cost towards covering the fixed costs. Once enough units have been sold for the total contribution to equal the fixed costs, the business breaks even. Every unit sold after that is profit.

Interpreting a break-even diagram

A break-even diagram (or chart) plots output on the horizontal axis and money on the vertical axis. It shows three lines: fixed costs (a horizontal line), total costs (fixed plus variable, sloping up) and total revenue (sloping up from the origin). Where the total revenue line crosses the total cost line is the break-even point.

Changes shift the lines. A rise in fixed costs (higher rent) lifts the fixed-cost and total-cost lines, pushing the break-even point higher (more units must be sold). A rise in the selling price makes the revenue line steeper, lowering the break-even point. A rise in variable costs makes the total-cost line steeper, raising break-even. Reading these shifts lets a business see how a price rise or a cost increase affects how much it must sell.

Try this

Q1. A business sells $300$ units at $20$ each. Calculate its total revenue. [1 mark]

• Cue. $300 \times 20 = 6{,}000$.

Q2. A business has fixed costs of $4{,}000$, a selling price of $10$ and a variable cost of $6$ per unit. Calculate the break-even output. [3 marks]

• Cue. Contribution $= 10 - 6 = 4$; break-even $= 4{,}000 \div 4 = 1{,}000$ units.