Margin of Safety

The excess of the actual sales revenue (ASR) over the break-even sales revenue (BESR) is known as the margin of safety. Symbolically,

Margin of Safety = ASR – BESR

When the margin of safety is divided by the actual sales, the margin of safety ratio is obtained. Symbolically,

M/S ratio = Margin of Safety/ASR

The M/S ratio indicates the percentage by which the actual sales may be reduced before they fall below the break-even sales volume. The higher the margin of safety ratio, the better it is from the point of view of the company.

The amount of profit can be directly determined with reference to the margin of safety and P/V ratio. Symbolically,

Profit = Margin of safety in amount x P/V ratio