How to Figure Out Your Break-Even Point for a Service Business

Running a service business is a constant balancing act. You’re balancing clients, projects, and keeping your team motivated. But in the middle of all the daily business, every owner needs to answer one important question: When does my business stop losing money and start making it? Your break-even point holds the key to the answer.

It’s like having a financial GPS for your business to know when you break even. It tells you exactly how much money you need to make to pay for everything. Any amount over this point is profit. Anything lower than that is a loss. This calculation is very important for service-based businesses like marketing agencies, consulting firms, salons, and cleaning companies to stay in business and grow.

Knowing this important number will help you set reasonable sales goals, make better decisions about your prices, and keep your costs in check. This guide will show you everything you need to know about how to figure out the break-even point for your service business. It will give you clear examples and steps you can take to use this financial information to help you plan your business’s future.

Getting a handle on your fixed costs

The first thing you need to do for any break-even analysis is figure out your fixed costs. These are the regular, expected costs that your business has to pay every month, no matter how many clients you have or how much money you make. Think of them as the minimum costs of running your business.

Some common fixed costs for a service business are:

• Rent is the money you pay every month for your office, studio, or business space.
• Salaries: Set pay for your managers, administrative staff, and other salaried workers (not including hourly workers whose hours change based on how much work they have to do).
• Insurance: The cost of business liability, property, or workers’ compensation insurance.
• Software subscriptions are monthly or yearly fees for important software like CRM software, accounting platforms (like Xero or QuickBooks), project management tools, and more.
• Utilities: Monthly bills for phone lines, internet, and basic water and electricity use that don’t change.
• Loan Payments: Every month, you have to pay the same amount on any business loans.
• Marketing and Advertising: Pay marketing firms a retainer or set a monthly budget for advertising.
• Professional Fees: The normal fees for legal or accounting work.

To find out how much your fixed costs are, just add up all of these costs over a certain amount of time, usually a month. This is the least amount of money your business needs to run, not counting the direct costs of providing your services.

Getting to Know Your Variable Costs

After that, you need to figure out what your variable costs are. Variable costs change directly with the amount of services you offer, while fixed costs do not. Your variable costs will go up the more clients you take on or the more projects you finish. These costs can be harder to see for service businesses than for product-based businesses that have clear raw material costs.

In the service industry, variable costs are often the direct labor and materials needed to provide a certain service. Some examples are:

• Direct Labor: The pay for hourly workers or contractors who are paid only for the time they spend working on a client project. For instance, the pay a graphic designer gets for the hours they work for a certain client.
• Commissions are the payments your team gets for bringing in new clients.
• Materials & Supplies: Costs of any materials used to deliver the service. For a cleaning company, this would be cleaning supplies. For a web design company, it could be stock photos or certain plugins that are bought for a client’s website.
• Transaction Fees: Fees for processing payments (like those from Stripe or PayPal) that are a percentage of each sale.
• Travel expenses are the costs of getting to a client, like gas or public transportation fares.

The most important thing is to figure out the variable cost per unit of service. One hour of consulting, one finished project, or one client appointment could all be examples of a “unit of service.” To do this, add up all the costs that are directly related to delivering that one unit. If a consultant charges by the hour and has no other direct costs, their variable cost per unit could be zero if they are on a fixed salary. But if they hire a freelance assistant to help with research for that client hour for $25 an hour, the variable cost per unit would be $25.

Finding Your Break-Even Point

You can figure out your break-even point once you know exactly what your fixed and variable costs are. You can use two main formulas: one to find the break-even point in units and the other to find it in sales dollars.

Formula for Break-Even Point (in Units)

This formula shows you how many “units of service” you need to sell to break even.

Break-Even Point (Units) = Total Fixed Costs / (Price Per Unit – Variable Cost Per Unit)

The Contribution Margin Per Unit is the same thing as the denominator (Price Per Unit – Variable Cost Per Unit). It shows how much money each sale makes toward covering fixed costs and then making a profit.

The Break-Even Point Formula (in Sales Dollars)

This formula tells you how much money you need to make to not lose money. This is especially helpful for companies that offer a lot of services at different prices.

First, you need to figure out your Contribution Margin Ratio in order to use this formula:

The Contribution Margin Ratio is the difference between the price per unit and the variable cost per unit, divided by the price per unit.

After that, you can figure out the break-even point in sales dollars:

Break-Even Point (Sales Dollars) = Total Fixed Costs / Contribution Margin Ratio

Break-Even Point For example: A Business That Gives Advice

Let’s use an example to show how these formulas work. Picture yourself as the owner of a small marketing consulting business.

Step 1: Find out what your fixed costs are.
These are your fixed costs every month:

• $1,500 for rent on the office, $3,000 for one admin assistant’s salary, and $300 for software subscriptions.
• Insurance: $200 
• The total fixed costs are $5,000.

Step 2: Figure out how much each unit costs and how much it costs to make them.
You charge clients $150 per hour for consulting services. This is how much you pay for each unit.

You use a special analytics tool that costs you $20 per hour of use for each hour of consulting. This is how much it costs you to make one unit.

Step 3: Find the Break-Even Point in Hours (Units)

• The contribution margin per unit is $150 (the price) minus $20 (the variable cost), which equals $130.
• The break-even point in hours is $5,000 (total fixed costs) divided by $130 (contribution margin), which is 38.46 hours.

To pay for everything, you would need to bill about 39 hours of consulting work each month.

Step 4: Find the break-even point in sales dollars

• The contribution margin ratio is 0.867 (or 86.7%) when you divide $130 (the contribution margin) by $150 (the price).
• The break-even point for sales is $5,000 (total fixed costs) divided by 0.867 (contribution margin ratio), which equals $5,767.

To break even, you need to make $5,767 in sales every month.

Seeing Your Break-Even Point: The Chart

A break-even point graph can be a very useful picture. It usually shows costs and income as a function of the number of units sold.

• The Fixed Costs line is a flat horizontal line because it doesn’t move when output changes.
• The Total Costs line starts at the level of fixed costs and goes up from there. This is because it includes both fixed and variable costs.
• The line for total revenue starts at zero and goes up.

The break-even point is the point where the Total Revenue line crosses the Total Costs line. The space below this point shows a loss, and the space above it shows a profit.

Using Break-Even Analysis to Make Choices

Figuring out your break-even point isn’t just something you do for school. It is a flexible tool that can help you make important business decisions.

1. Choosing Prices

If your break-even analysis shows that you need to sell an unrealistic number of units to make money, it could mean that your prices are too low. You can find a price that is both competitive and profitable by modeling different price points to see how each one changes your break-even point.

2. Keeping costs in check

Break-even analysis shows you how your costs are set up. It will be hard to reach your break-even point if your fixed costs are too high. This might make you want to find ways to cut costs, like moving to a cheaper office or renegotiating with software vendors. In the same way, looking at your variable costs can help you find better ways to offer your services.

3. Making Sales Goals

You can set clear, data-driven sales goals once you know your break-even point. You can change the formula, for example, if you want to make $10,000 a month in profit:

Target Sales (Units) = (Total Fixed Costs + Target Profit) / Contribution Margin Per Unit

For example, in our consulting case:

($5,000 + $10,000) / $130 = 115.38 hours. 

To reach your profit goal, you would need to bill about 116 hours a month.

What Break-Even Analysis Can’t Do

While incredibly useful, break-even analysis has its limitations. It is based on a few important ideas:

• The costs that don’t change stay the same. In real life, fixed costs can go up or down (for example, if the rent goes up).
• The variable costs per unit stay the same. If you buy a lot of materials at once, you might get a discount, which would lower your variable cost per unit.
• The price stays the same. You could change your prices or give people discounts over time.
• All of the units made are sold. This is more important for businesses that sell products, but it’s still a factor.

It’s also important to remember that break-even analysis is a number-based tool. It doesn’t take into account qualitative factors like brand perception market demand, or competition.

Tools and Resources for Analyzing Break-Even

You don’t need expensive software to do a break-even analysis. Most of the time, all you need is a simple spreadsheet. It’s easy to make a break-even analysis for a service business in Excel or Google Sheets. Just make columns for fixed costs, variable costs, and price, and then use formulas to figure out the break-even points.

A lot of accounting software has features or integrations that can help you keep track of your income and expenses. This makes it easier to get the information you need for your analysis.

Take charge of your financial future

Knowing your break-even point changes your mindset from hoping to make money to planning to do so. It gives you the financial clarity you need to confidently deal with the problems that come up when you run a service business. By regularly calculating and analyzing this important number, you can make smart choices that will not only keep your business alive but also help it grow in a way that lasts.

The Business Kiwi team is here to help if you want to learn more about your business’s finances but don’t know where to start. Our experts can help you do a full financial analysis which will give you the information you need to succeed. To take the next step toward mastering your business’s financial health, book a consultation with us today.