How big is your pipeline? Breakeven Analysis 101 part 2!
A few months ago I did an entry on using a simplified financial break-even calculation that a business owner could use for high level strategic planning based on what they’d like to make. You can see the details here.
As a quick summary, the revenue you need to reach a financial break-even point is your Fixed Costs divided by your Profit Margin.
Your fixed costs are the money you’ll spend if you have 1 customer or 100 customers (not impacted by volume).
Your profit margin is your sales revenue minus your variable costs divided by your sales revenue. Here’s a quick example to put it into perspective:
Sales Revenue – $120,000, Variable costs – $60,000
Profit Margin is 50% (120 – 60)/120
Fixed costs – $100,000
Revenue needed to reach break-even = $200,000 ($100,000 / .5 = $200,000)
If you want to make money above and beyond the break-point (which most people do…) then the amount you’d like to plan for just gets added into the fixed costs component. In the example above, if the owner would like to make $50,000 above break-even, then they would need Sales Revenue of $300,000 ($100,000 + $50,000) / .5 = $300,000.
It’s a handy way to do some back of the napkin strategic planning. However you can extend this even further.
If you know what your average sale and your close rate is, you can use this to plan your sales activity that you’ll need to reach break-even (or your goals). If you don’t know your close rate, then you can take a reasonable guess – it’s a planning exercise so you can always try more than one and see which one seems reasonable.
Using the above example, let’s assume that every sale is worth $1000 and that 33% of prospects will complete the sale on average.
The next step is to use that information to see how many sales you’ll need every Month, Week and Business Day and from that you can back into the number of prospects you need to see.
Yearly Monthly Weekly Daily
Breakeven Sales $200K $16.7K $3.8K $769
Number of Sales 200 17 4 1
# of Prospects 606 51 11.7 2.3
So to reach $200,000 in sales, they would need 200 sales a year (at an average of $1000 per sale), which at a close rate of 1 out of every 3 would require about 600 qualified prospects to talk to over the course of the year. (200 / .33 = 600).
Assuming an even distribution of work over the year, they would need to be meeting with ~12 prospects a week and more than 2 every day!
Obviously this is unrealistic for a lot of businesses that have some sort of seasonal flow, but the logic is the same, you might just have to play around with the time frames and averages a bit.
All of this seems simplistic – and it is, but it’s a great place to start a conversation with your sales team and just getting a black and white number on the table can work wonders to set expectations. If it’s not reasonable to meet with 12 prospects a week (using the above example) on average, then you need to change something about your business model.
If you don’t think you’re going to reach your number, do you need to tweak the number of prospects you’re seeing? That implies more effective marketing – but be careful, if you spend more on marketing (which is a fixed cost) your break-even number just went up as well.
Maybe you need a more productive close rate (sales training, more targeted marketing so you’re talking to ‘better’ prospects) or maybe you need to reduce some of your overhead. The target can be reduced by cutting down on your fixed costs or your variable costs (or both).
How would this apply to your pipeline? Are there other key things you’d look at? I’d love to hear feedback on this.
Shawn Kinkade www.aspirekc.com