# 4.7Tools: Financial Viability

Now that you have learned about the first two elements of the cycle of satisfaction—deep customer insight and end-to-end development—let's take a moment to reflect. What are you really trying to accomplish with all of this work? Answer: Your goal is to consistently bring great new products to market that solve customers' problems profitably! Without profit, you won't have the money needed to invest in the next generation of customer-pleasing products.

With this goal in mind, you need to ask, "Can we justify bringing this new product to market?" This question is part of the discussion at each stage gate. Two tools are commonly used to evaluate financial viability:

1. Break-even Analysis

2. Net Present Value

## Break-Even Analysis

Let's return to the stage-gate process. The first "go/no-go" decision takes place right up front as you screen each new product idea. As part of your evaluation, you ask, "Does the product provide a positive return-to-risk ratio?" At this early design stage, you don't have enough information to perform a detailed profitability analysis. However, you can probably run a break-even analysis.

As the name implies, a break-even analysis asks, "Can you make money (i.e., break even) with this product?" That is, are likely sales (in units) sufficient to cover the costs of making the product? The equation to calculate the break-even point is as follows:

$Q B E = F C P − V C$

where,

• Q BE = Number of Units to Break Even

• FC = Fixed Costs

• VC = Variable Cost per Unit

• P = Sales Price per Unit

Now, let's talk through the logic of the equation. The total cost of producing a product is the sum of the fixed and variable costs (see Figure 4.13).

• Fixed costs exist regardless of how many units you make. They are the costs of being in business (e.g., overhead and insurance).

• Variable costs are the costs associated with making each unit and include direct labor and materials.

Assuming your sales price (P) is greater than your variable costs (VC), every time you sell a unit, you pay off some of your fixed costs. This amount (P-VC) is called the contribution to fixed costs. So, you break even when you sell enough units (QBE) to cover your fixed costs. You may be wondering, "Where do you get the numbers needed to calculate the break-even point?" Because you are early in the design process, you really don't have accurate numbers. Rather, you work off of forecasts made by your marketing (price) as well as accounting (fixed costs) and production (variable costs) teams.

Figure 4.13: Break-Even Analysis

Now, let's walk through an example. Imagine you want to start up a company to manufacture and sell sporty polarized sunglasses designed in university colors and featuring university logos. You've done your homework and estimate the variable costs (including trademark privileges) will be $57 a pair and the fixed costs to be$78,000. Answer the following two questions.

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