What is Contribution margin?
In short
Contribution margin is sales minus variable costs: the amount available to cover fixed costs and then provide profit. The contribution margin ratio is contribution margin divided by sales.
Key takeaways
- Break-even units equal fixed costs ÷ contribution margin per unit.
- Units needed for a target profit equal (fixed costs + target profit) ÷ contribution margin per unit.
- With limited capacity, products are ranked by contribution margin per unit of the scarce resource.
Example
Price $50, variable cost $30 and fixed costs of $200,000: contribution margin is $20 a unit, so break-even is 10,000 units.
Where it's tested
BAR: Financial Forecasting, Budgeting & Valuation — study notes, a five-minute revision sheet and practice questions.
Practise: 3 questions
Question 1 of 3 · 0 answered
A product sells for $80 with variable costs of $50 per unit. Fixed costs are $360,000. How many units must be sold to earn a target operating profit of $90,000?