Question

Draw two break-even graphs—one for a conservative firm using labor-intensive production and another for a capital-intensive firm. Assuming these companies compete within the same industry and have identical sales, explain the impact of changes in sales volume on both firms’ profits.

Short answer

Break-even Graph for the conservative firm using the labor-intensive product

Break-even Graph for the conservative firm using the capital intensive product

Step-by-step solution

Break-even analysis

Companies widely use break-even analysis to know the production volume at which the contribution margin equals the fixed cost. It is a situation in which there is no profit or no loss.

Break-even for the conservative firm using the labour-intensive product.

The company manufacturing labour-intensive products incurs less fixed costs and high variable. It is so because the labor-intensive product company requires more labor to produce the goods than machines. Until the break-even point is achieved, the company is incurring losses due to the fixed cost, and after that company starts earning profits. The company achieves the break-even point of labour-intensive products earlier than capital-intensive products.

Break-even for the conservative firm using the labor-intensive product. 

The company engaged in manufacturing the capital-intensive products incur high fixed costs due to which they incur high loss until the break-even point is achieved. After achieving the break-even point, when the sale has increased, the company's profit also increases at a high rate. It is so because the capital-intensive products incur less variable cost.