Wize University Managerial Accounting Textbook > Cost-Volume-Profit Analysis
The Contribution Margin
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Contribution Margin
The contribution margin is the profit leftover after selling a product and paying its variable costs. The actual selling price of a product is of little importance in the overall analysis of a company’s profits, what is more important is the Contribution Margin (CM) because the contribution margin is used to pay fixed costs and eventually generate profit for the company.
The CM is calculated using this formula:
Therefore, on a per unit basis we could use:
The contribution margin is the amount leftover after variable costs that a company can use to pay for its fixed costs and then generate profit; therefore, contribution margin can also be seen as:
CM can also be reported as a ratio, the Contribution Margin Ratio (CMR) is the proportion of the selling price that ends up in the contribution margin, it is computed as follows:
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Example: Contribution Margin
ABC Inc. produces desk lamps that it sells for $50 each. The following is the cost data for the desk lamps:
If the company expects to sell 20,000 lamps this year, what will be it contribution margin and contribution margin ratio?
Practice: Contribution Margin
ABC Inc produces skateboards and sells them for $60 each. Each skateboard costs $5 in direct materials, $7 in direct labor, and $3 in variable manufacturing overhead. The fixed manufacturing overhead costs a total of $20,000 per month and the company pays a 5% sales commission on each unit sold. There are no other costs. It is estimated that the company will sell 5,000 units this month. Compute the following:
- Contribution margin per unit
- Total contribution margin
- Contribution margin ratio
Contribution margin per unit