What is Break-even Point and Shut-down Point?

Break-even Point

The point where total revenue is the same as the total cost is known as Break-even Point. At this point, the firm is able to meet all of its costs. The break-even point can be shown with the help of the following graph:

In the above graph, we can see that E is the break-even point as Total Revenue at this point is equal to the Total Cost. At point E, the firm has attained normal profits or a No Profit No Loss situation. Any other point below this point represents abnormal losses; however, any point, which is above Point E represents abnormal profits.

Besides the above case, Break-even Point can also be achieved when AR=AC.

As discussed above, the break-even point is attained when:

TR = TC

By dividing both sides by Q (Output), the result will be

\frac{TR}{Q}=\frac{TC}{Q}

AR = AC

[\because{\frac{TR}{Q}=AR~and~\frac{TC}{Q}=AC}]

This can be shown with the help of the below graph:

Hence, it can be concluded that the break-even point is a point where TR = TC or AR = AC.

Shut-Down Point

The situation when a firm is able to cover only its variable costs is known as Shut-down Point. At this point, the total revenue received from the sale of goods is the same as the total variable costs of production; i.e.,

TR = TVC

By dividing both sides by Q (Output), the result will be,

\frac{TR}{Q}=\frac{TVC}{Q}

AR (Price) = AVC

[\because{\frac{TR}{Q}=AR~(Price)~and~\frac{TVC}{Q}=AVC}]

At the shut-down point, a firm incurs fixed cost loss. Even though there is a fixed cost loss, the firm does not stop production as the fixed cost will still be there. However, if the price or AR falls more and is unable to meet even its average variable cost, then the firm will have to shut down its operations. This situation can be shown with the help of the following graph:

In the above graph, the firm attains Shut-down Point at L, when AR is equal to AVC.