The formulas to calculate Margin of Safety are:
Margin of Safety in Dollars=Current Sales−Breakeven Point
Margin of Safety Ratio=Current Sales−Breakeven PointCurrent Sales
Margin of Safety Percentage=(Current Sales−Breakeven PointCurrent Sales)×100
Margin of Safety in Units=Current Sales−Breakeven PointSales Price Per Unit
The margin of safety is the difference between the current or estimated sales and the breakeven point. It provides a cushion for investors and managers against potential losses due to inaccuracies in their sales estimates.
A high margin of safety indicates a low risk of loss, while a low margin of safety signals a high risk. It helps investors and managers to make adjustments and provide leeway in their financial estimates.
Let's assume the following for Baggies Enterprise:
To calculate the Margin of Safety:
Margin of Safety in Dollars=80,000−50,000=30,000
Margin of Safety Ratio=80,000−50,00080,000=0.375
Margin of Safety Percentage=(80,000−50,00080,000)×100=37.5%
Margin of Safety in Units=80,000−50,00010=3,000 units