Contribution Margin

Posted in Marketing and Strategy Terms, Total Reads: 1506

Definition: Contribution Margin

Contribution margin is the excess amount earned on the product. It is the sales price minus the variable cost.

In other words:

Sales Price = Variable Cost + Contribution Margin

It is that amount of sales revenue that is not used up in the variable costs and hence can be used to cover the fixed costs. Contribution margin can be calculated for per unit of sales of a product or in bulk.

Unit Contribution Margin = Unit Sales Price – Variable Cost per Unit

Total Contribution Margin = Total Sales – Total Variable Cost

or

Total Contribution Margin = Unit Contribution Margin x Number of Units Sold

Contribution margin can also be defined as the marginal profit on per unit of sale of a product. Low contribution margins are earned in labour-intensive tertiary sectors and high contribution margins are earned in the capital-intensive industrial sectors. Calculation of contribution margin allows one to find out the profitability of products.

If a company notices that the contribution margin on one of its products is less than the industry average, it can adopt one of the following methods to fix the situation:

1. Variable Cost of the product may be reduced

2. Sales Price may be increased

3. Product may be taken off the market

For example, suppose you want to calculate the total contribution margin (CM) on a toothpaste tube.

Price per Unit: Rs. 20

Units Sold: 800

Total Variable Cost = Rs. 8,764

Total CM = Total Sales – Total Variable Cost

Total Sales = Price per unit x Number of units = 20 x 800 = Rs. 16,000

Therefore;

Total CM = 16,000 – 8,764 = Rs. 7,236

Unit CM = Total CM / No. of units = 7,236/800 = 9.045

Hence, this concludes the definition of Contribution Margin along with its overview.

Browse the definition and meaning of more terms similar to Contribution Margin. The Management Dictionary covers over 7000 business concepts from 6 categories.

Search & Explore : Management Dictionary

Similar Definitions from same Category: