The employment of a high level of fixed assets (with fixed costs) at high volume increases the profit potential of a business. At low sales volume, however, losses multiply; and difficulty in meeting your fixed costs, such as payments for plant and equipment, may ensue.

For most small businesses, limiting downside risk is more important than increasing potential profits, so it's wise to keep your fixed costs low wherever possible.

Joe's Carpentry Shop's fixed costs are $28,000 and its variable costs per unit of production (bird call) or sales are $.60. Its sales revenue is $1.00 per bird call. Each bird call can contribute $.40 toward covering fixed costs. Joe's breakeven point is the same as Lillian's Bakery in the previous example: $28,000/$.40 = 70,000 units.

As with Lillian's Bakery, as sales exceed 70,000 bird calls, Joe's Carpentry Shop earns a profit. Sales of less than 70,000 bird calls produce a loss. Presented graphically, however, a picture emerges that is very different picture from that of Lillian's Bakery:

Joe's Carpentry Shop can see that a 10,000 unit increase in sales over break-even to 80,000 bird calls will produce a $4,000 profit, and a 30,000 unit increase to 100,000 bird calls will produce a $12,000 profit. Similar losses occur as sales drop below break-even.

Breakeven analysis shows the effect of increased investments in fixed assets that lower variable costs but increase fixed costs. A decision to go with heavier investment in fixed assets and to increase operating leverage will, to a large extent, be determined by your perception of the economy and of the ability of your business to meet higher sales levels necessary to support the fixed costs. Also consider the degree to which sales expansion is practical. Increased volume can result in price weakness or higher-than-expected costs as you exceed your optimum levels of production.