One of the difficulties when starting a business is predicting the volume of sales and costs in the future. You don’t need to be a genius to guess that it’s impossible to know exactly what is going to happen, either if your product will be a complete success or that a competitor will launch another one that might have a better reception in the market. Whatever the scenario, there is a risk that some circumstances outside your control may jeopardise your business.

Safety first

When calculating the break-even point, some companies not only want to know at what point they will start making profits, but also the maximum sales they can achieve. The difference between incurring loses and maximum benefits is what might is known as margin of safety.

When embarking on a new project, such as launching a new product, starting a business, or expanding into a new market there is always a risk that things don’t go as expected. That happens actually quite often. But the worst is when the business doesn’t have capacity to react and face the losses.

For example, if a project is expected to cost 2,000.00 EUR, it could be wise to gather funds up to 3,000.00 EUR. The difference, 1,000.00 EUR could be considered the margin of safety, in case unexpected additional costs arise that might interrupt or delay it.

The margin of safety doesn’t only need to be applied in financial situations. When estimating the duration of a project, adding buffer to certain activities might provide some margin to react when setbacks occur. For example, if we are expecting a supplier to deliver goods in three days, we could inform our client that they will receive it in five days even if she is not entirely happy with our answer. Then we have two additional days just in case problems arise. It is better that having to inform her purchase will take longer to be delivered.

Even though it is impossible to predict what is going to happen in the future, mitigating the risk of our activities is more than advisable. Therefore, knowing how to make a good use of a margin of safety is a key to reduce the probabilities that the continuity of our business is interrupted.