1. Identify two contrasting businesses:

This might sound easy but you need to think carefully before settling on the businesses you are going to study. 'Contrasting' means the two have to be very different. But different in what way? Size, aims, objectives, sectors, employment levels? It could be one or any of those categories and more. So you will have to think carefully before choosing.

The above assumes you understand some basic concepts in business, so let's see if you do!

1. Explain the difference between business activity in the public sector and that in the private sector. (Using the Glossary might help you.) (http://www.bized.co.uk/glossary/bizglos.htm)
2. List five businesses that operate in the private sector and five business activities in the public sector.
3. Explain the difference between the primary sector, the secondary sector and the tertiary sector. (Again, use the Glossary and also our PowerPoint Presentation.) (http://www.bized.co.uk/educators/16-19/business/strategy/presentation/busobjectives2.ppt)
4. What is the difference between an 'aim' and an 'objective'?

Now it is time to select our contrasting businesses. You can use the Business Profiles section(http://www.bized.co.uk/compfact/business_profiles.htm) or make your own choice - one of them could be an organisation where you work, for example.

2. Explain the differences:

You will now have to explain in what ways the businesses are different. You could describe the sector they are in, the size of the firm, their aims and objectives, their mission statements, the type of product they sell or the type of service they provide. In so doing you will be providing some analysis of each business.

When you do this task try to remember that you must try to structure your answer carefully to avoid the whole thing sounding like a list - 'Company X is in the primary sector whereas company B is in the secondary sector. Company A has many employees whereas company B has only 10' - that type of thing!

3. Introduce break even:

Break even is an important concept for all businesses. We were mentioning analysis earlier in the Activity. Break even is useful to look at as an example of analysis in businesses. All businesses must have an understanding of the concept.

This does not mean that they will sit down and draw out a break even chart - as you will do - but they must have that understanding. We use charts to help make the concept clearer in our own minds, to break the concept down into its constituent parts and make it easier to understand.

Let's start by identifying some basics: How does a business 'make money'?

Hopefully, you said something like 'it sells things for more than it cost to make them in the first place'. Now, let's analyse this simple principle in more detail.

Take each of the two businesses you have chosen.

• What does it take to be able to supply the good or services to the customer - what types of resources (inputs) are required?
• What price does it charge for the good/service? Is it high, low, medium and why do you think they charge the price that they do? (In many cases firms charge several different prices for the same product or service!)

What you have identified is the firm's revenue and its costs. We can set out a formula to help us understand these two concepts in more detail.

Profit is related to the costs incurred by a business and the revenues that the business receives.

The revenue is found by multiplying the price paid by the amount sold - the formula is shown above.

The costs can be divided into two main types.

• Fixed costs are the costs that the business has to pay whether they produce/sell anything at all! These can include the set up costs - premises, equipment, machinery and so on - that have to be secured before trading begins, the insurance costs that businesses have to have, the business rates that have to be paid to government, the interest payable on loans and so on.
• Variable costs are the costs that are directly linked to the amount produced. Such costs could include (but not always) wages for staff, the cost of raw materials and certain energy costs. Added together they give us total cost (TC=FC+VC).

Profit (or loss) is calculated by subtracting the TC from the TR.

Let's put all that together to see where it all fits in.

4. Identify fixed and variable costs:

Now it is time to do a bit of thinking. Take one of the businesses you have selected.

What might the fixed and variable costs be in providing the product or service you have chosen?

Are there costs that you are finding it difficult to categorise? If so, why? Some costs do not fit into neat categories - one of the problems of analysis is when you try to make things simple! If you have identified some tricky costs, don't worry - you get the basic idea. That is what is important at this stage.

5. Represent the behaviour of costs and revenues on a chart:

Next, we are going to look at what happens if we try to represent the behaviour of our costs and revenues on a chart. Why? Because this is how we start to look at break even.

We mentioned earlier that all firms have to set themselves up before they even sell one thing. That is the risk in business. What happens if you spend a lot of money setting up your business, which nobody then wants to use?

Imagine setting up a hairdresser's shop - you rent the property, kit it out with all the equipment necessary to do the job, buy the shampoos, towels, perm lotions, dyes and so on. Then comes the great day to open the salon. Imagine sitting there waiting for the customers to roll in. What if no one comes in on the first day? What would you feel like if only ten people use the salon in the first week?

Every business, large or small, goes through that process. A slow start might not be as disastrous as it sounds! The important thing is to know what sales you are going to need to generate to cover the cost of setting everything up. Once you have done that, then you move into profit. Providing that the hairdresser's business picks up over the first few months, it will eventually generate enough customers to earn enough revenue to cover all its set-up costs. This is what we mean by 'break even'. Once we have generated enough money to cover all the set-up costs and the cost of running the business on a day-to-day basis, we start to make a profit.

Break even, then, is the level of sales necessary to generate sufficient revenue (TR) to cover the total costs (TC).

Understanding break even is important in the planning process for a business. It is a 'planning tool'. It can help in the planning because we can look at how we could influence or change any of the variables in order to affect the break even point. Our salon, for example, could decide to charge £10 for a basic wash, cut and blow dry or they could decide to charge £50 for the same service. The price charged would affect the total revenue and thus will affect the break even level of sales.

6. Identify the break even point:

Next bit of thinking. What would it look like if we plotted a graph with sales revenue/costs on the vertical axis and sales levels (output) on the horizontal axis? What would the following variables TC, VC, FC, TR look like? Sketch out your ideas on a piece of rough paper.

Were you right?

The break even point on the diagram is the level of sales where TR = TC. We can also use a formula to calculate this level. It is given by:

Where the contribution per unit represents the difference between the revenue received from the sale of each unit minus the variable cost of producing it.

Task

Fixed costs for the hairdressing salon are £50,000. The cost of providing the service for each customer (staff wages, materials, etc.) is £5 and the firm charges £10 for each customer. What is the number of customers the salon needs to break even? (Type your answer without a £ sign or a comma)

Can't get this question to work? Then take a look at this...

7. Generate a break even chart:

Let's now put a bit of flesh on the analysis. The table to the right gives the total cost of a product at different output levels. Use the information to generate a break even chart. You can do this by using a spreadsheet if you wish.

Assume that the firm decides to set a price of £2 initially. You should get a break even chart that looks like the one below:

View larger version.

The break even level of sales is 6,000. We mentioned that break even was a planning tool. The above chart shows the situation assuming the firm charged a price of £2 per unit. It may have settled on this price as a result of some market research that it carried out or it may have used some pricing strategy such as competitive pricing, cost-plus pricing and so on. (See the glossary for an explanation of these terms.)(http://www.bized.co.uk/glossary/bizglos.htm)

Having put this price into the plans, the firm will have some idea of how many units it needs to sell before it covers its total costs. What would happen if it considered charging a different price?

• It may feel that a higher price will be justified.
• It may believe its product is higher quality and so warrants a higher price.
• It might feel that a lower price is needed because of the nature of the target market.

View larger version.

The chart above shows what happens when you put in different price levels - in this case, we chose to increase price to £3 and reduce it to £1.50. You can see from the diagram that a higher price means the firm has to sell only 25 units before it breaks even whereas if they charge a lower price of £1.50 they will have to sell 100 units before breaking even.

The question for the firm then is which would be the most appropriate price to decide upon?

8. Justify the price being charged:

The next stage is to try to find some justification for the prices charged.

You will need to think about the type of product/service they are selling and how consumers might react to the price changes.