From Dough to Dollars: Indirect Costs and Break-Even Point - Part II

Fellow cookiepreneurs, the holidays are upon us, and I hope this month’s post finds you in high spirits and looking forward to the coming days.

 

Before I begin, I wanted to share that I recently received feedback that some of you would be better served if I broke down the subject matter of pricing into more manageable sections. It is in that spirit that I have decided to extend this costing/pricing subject into a three-part series.

 

The series will unfold as follows: Part I - Setting up a Successful Costing Model, which was covered in my last post; Part II - Indirect Costs and Break-Even Point; and Part III - Margin and Markup, aka How to Price Your Cookies for Profit.

 

In this post, I will take you through the process of figuring out your indirect costs and then explain how to use an online calculator to determine your break-even point, or the number of cookies you need to sell in a given month to break even (i.e., neither make nor lose any money). In Part III, I will explain the difference between margin and markup and provide you with two more calculators that will make it a breeze to price your cookies for profit.

 

Last time, you learned how to compute the direct costs associated with producing a cookie, and that direct costs only involve those raw materials, packaging, and labor that go into the creation of your product. In order for you to accurately price your cookies for profit, you will need to figure out your indirect or overhead costs and take them into account as well. Overhead or indirect costs can best be defined as the expenses related to the running of a business such as rent, utilities, or any other costs not associated with the direct materials or labor used to manufacture your product. (For a refresher on how to compute your direct costs, please revisit my previous post.)

 

As an example here, I will build upon my average direct costs of $1.08 per unit (for relatively simple decorated cookies) by computing my average indirect costs. You should, of course, develop your own unique costing model that reflects the average direct costs of your cookies and the indirect costs associated with your business structure (i.e., home-based, standalone shop, etc.). For instance, your direct costs could very well be much higher than mine if you do detailed labor-intensive cookie designs.

 

1.0 Indirect Costs/Overhead - How Much Does It Cost You To Run Your Business?

Overhead includes both fixed and variable costs. Fixed costs are those expenses that require the same exact amount of money to be paid each month (or quarter/year), such as rent, kitchen equipment lease/rental, waste disposal, website maintenance fees, etc., and which are not a function of how many cookies you produce or orders you process. Whether you produce 1 or 1,000 cookies, these are those costs that you will incur like clockwork no matter what! If you have a small home-based business, these costs will, of course, be much smaller than those associated with running a standalone brick-and-mortar bakery. Variable costs are those costs that increase when production (number of orders or cookies) increases. These costs include things like shipping, paper supplies (office), utilities, etc.    

 

That said, your overhead can vary from month to month depending on the number of cookies you produce, and if you have any payments that are not monthly, but which are paid on a quarterly basis or at some other frequency. To keep this analysis simple, I've computed an average monthly overhead, which I am treating as 100 percent fixed (meaning I have assumed that any fluctuations in my variable costs are small and any "lumpy" fixed costs have been spread out over the year.)

 

Below I have provided a sample of the monthly costs associated with running Wacky Cookies, my cookie operation. I use a spreadsheet that allows me to create a projected budget and then adjust for actual costs. I have taken into consideration rent, phone, utilities, advertising, insurance, gas, supplies, and wages. Please note that these wages are for indirect clerical and cleaning services and should not be confused with direct labor costs for which I have already accounted.

 

 Table 1 overhead costs

 

Although not reflected in this particular budget, licensing fees or fees for professional services rendered, such as accounting or legal consultations, should be added if incurred. For a more complete list of which expenses to include as part of your overhead, refer to 1040 Schedule C

 

If you include your earnings from your home-based business on your annual 1040 and operate as a sole proprietor, consult irs.gov for guidance on how to accurately calculate/pro-rate rent and other expenses (such as utilities) for the sections of your home used for your business. This is how to determine what you can deduct for business-related expenses.

 

If you run any kind of corporation or your tax questions extend beyond these basics, it's best to contact a certified tax/accounting professional for further guidance, as the way you set up your expenses and bookkeeping has a direct bearing on your tax liabilities.    

 

With my average direct and overhead costs now figured out, I have the two figures, along with cookie price, needed to arrive at my break-even point.

 

2.0 Break-Even Point

What is a break-even point and why is it so important? As noted earlier, your break-even point is the number of cookies you need to sell in a given month (or other period) so as not to make or lose a dime.

 

I wanted to pause on this point before moving onto pricing in Part III, because many of you are already selling cookies and have set your prices. With what you have learned in Parts I and II and your own prices and costs now in hand, you can easily calculate your break-even point with the following Break-Even Analysis Calculator designed by the good folks at CCD Consultants

 

table 2 break even calculator

Source: Table and Break-Even Analysis Calculator by CCD Consultants

 

You can certainly set up a break-even calculation in your own spreadsheet (Breakeven Units per Month = Monthly Fixed Costs/[Price per Unit - Variable Cost per Unit]), but CCD Consultants has a number of other handy tools that we will use to calculate other important figures in our next post. Their tools are free of charge, however donations are accepted for their use.

 

Here's a quick overview of how their Break-Even Analysis Calculator works, using my example. Simply plug in three numbers to the left:

  • $4.50 is my average price per cookie
  • $1,713 is my average monthly overhead 
  • $1.08 is my average direct cost per cookie - what I figured out in Part I (Here, you would also want to include any variable indirect costs if they are significant in your case. As noted earlier, I have treated all of my indirect costs as fixed.)

Then at the push of a button, the calculator indicates that to break even or make no profit, I need to sell 501 cookies each month, which comes to $2253.95 in revenue at a $4.50 selling price.

 

Now that you have access to this tool, I encourage you to use it, and I ask:

At your current price, how many cookies do you need to sell per month to break even? 

 

Even though we have not yet reviewed pricing and profit margins, I hope that by simply looking at these figures, you will gain more perspective on what you should be charging and why.

 

Again, next time around, we will discuss the difference between margin and markup, and finally how to price your cookies for profit. 

 

As always, I welcome your comments and questions. For those here in the States, I wish you a wonderful Thanksgiving packed with blessings, turkey, stuffing, and lots and lots of cookies. And, of course, warm holiday greetings to all!

 

Always remember, persistence is the key to success, Never give up, never!

 

 

Aymeecookiepreneur

Aymee VanDyke, also known as Cookiepreneur, is a successful entrepreneur and business consultant whose main focus is to help women in the cottage food industry build profitable and rewarding businesses. She is the founder and owner of Cookiepreneur and The Wacky Cookie Company, a four-year-old cottage/commercial cookie business that has operated in the black for most of its existence. Aymee has an extensive background in personal development and attended the Norwegian School of Business in Oslo. Her articles have been published in BISSI, the magazine of the Norwegian School of Business, and Somos Magazine.

 

Photo credit: Aymee VanDyke

 

Note: From Dough to Dollars is a regular Cookie Connection blog feature written by Aymee VanDyke that provides business planning, marketing, and other tips for starting a cottage cookie business and taking it to the next level. Its content expresses the views of the author and interviewees, and not necessarily those of this site, its owners, its administrators, or its employees. To catch up on all of Aymee's past posts, click here.

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I have not sat down and figured all my costs, just my direct costs (but not labor.) You have said that you chose to make simple cookies with a higher volume and your cookies are $4.50 each. I can't get that much for my elaborate cookies. I work out of my home so that does lower some of the costs but my labor time is considerably higher than yours. I know that I have to raise my prices and I'm trying to do that using the pricing chart from Sugarbelle. Right now my simple 3" are $22 a dozen, assorted styles and sizes $25 a dozen, all the way up to elaborate 4" or larger $35 a dozen. I have yet to get an order for the elaborate. In fact, I've lost quite a few customers who got angry because of these prices (they're used to getting elaborate for $25 a dozen including individual wrapping.) Is it dependant upon location and therefore I can't expect anyone to pay that amount? Or is it just a matter of finding customers willing to pay these prices? (I've been looking high and low for them, lol.) I want to price my cookies so that I'm not making pennies in labor but also so that I've actually got orders to lake upon.

Donna,  Thank you , that is a very good question, in fact so good that I am going to dedicate an entire post to it in the near future.  You are not alone. I find that many people encounter this, I did as well in the beginning.

 

Unfortunately, the market is flooded with cheap cookies being offered by cookie aficionados that are eager to make a sale. This is very frustrating as it tougher for the rest of us to make a profit, that is something that you will always have to contend with, free market economy and all, but these are some of the things that I have done to get around that, I hope they will help you as well.

 

1. When you receive a quote request from a potential client, make sure you explain to them EXACTLY what you are offering and how your cookies are different. Make sure you always use the best ingredients, that you bake your cookies as close to the ship date as you can so they are very fresh.  Make sure you explain upfront that you may not offer the cheapest cookies , but they are certainly the best.  I learned this from Sylvia Weinstock the Cake genius. When you visit her webpage, there is a John Ruskin Quote that reads "There is hardly anything in the world that some man cannot make a little worse and sell a little cheaper, and the people who consider price only are this man's lawful prey".

IN other words,let your potential customer know right away that you are NOT the cheap cookie lady , you are the quality cookie lady.  You have to be willing to lose the sales that are not worth it..I find the clients that try to nickel and dime you, will cost you money in the end so it's just best to let them go!

 

2. Be bold, by offering them a guarantee that your cookies will taste fresh and fabulous. Let them know that if they are not satisfied  with their cookies you will make it right.  Many people are afraid to do this, but if you are not that confident in your product, then you should not be selling it, I tell my ladies. Quality and consistency is what builds a business, which means that you must make your cookies good enough that you will be guaranteed a repeat sale. That is the secret of how I have built my business.

 

3. Yes, area is important as well . I live in the Washington D.C. Suburbs where many people are upper middle class and can afford my cookies, so yes I do believe that it also depends on the area where you are located or where you sell your cookies. 

 

4. Advertise or sell where you know people with the kind of income that can afford your cookies will be looking.  For example, ETSY is a great place to sell your cookies. Facebook might generate some sales for you as well. Word of mouth is the absolute best.  

 

The truth is there are no shortcuts to buiding your business. There are many details that play into this. The best advice I can give you is to treat those customers whose business you do earn like gold, and I promise you that if you sell them a good enough product, they will not leave you over a few dollars.

 

Lastly, you have to be your own best salesperson! When you send out those quotes, you have to convey that you stand behind your product, and in essence what it comes down to is selling yourself to that customer and asking for that opportunity to make their cookies.   

 

I hope this helps a bit and I promise to dedicate an entire post to this subject.. Hang in there and good luck!

Thank you so much! I've been following your articles and have learned a great deal about the business side of cookies. I think that there are so many of us that started decorating cookies as a hobby then people wanted to buy our products and we were happy making some money doing what we loved.  Pretty soon we have a business going but the problem is we didn't set out to start a business. We still have the hobbiest mentality which doesn't always equate to profit.  We have to realize that the great majority of people are not going to say, "hey, your product is fantastic and you should charge me more for it." We have to have the confidence to say to our customers, "my product is fantastic and worth every penny I charge."
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