July 22, 2011
Contribution Margin and Break Even Point
I’m going to discuss Contribution margin and what it is and how it relates to companies and profits. Contribution margin is the amount remaining from sales revenue after variable expenses have been deducted. It is the amount available to cover fixed expenses such as lease agreements and then to provide profits for the period. Contribution margin is first used to cover the fixed expenses and then whatever remains go towards profits of the share holders. If the contribution margin is not sufficient to cover the fixed expenses that a company has then a loss occurs for the period. Contribution margin analysis is a tool used to differentiate by cost/volume/profit analysis. Contribution margin is total revenue minus total variable cost. This difference can be expressed as a percentage of total revenue. A company's contribution margin can be expressed as the percentage of each sale that remains after the variable costs such as advertising and lease payments are subtracted. Given the contribution margin, a company president can make better decisions about whether to add or subtract a product line, about how to price a product or service, and about how to structure sales commissions or bonuses. The contribution margin is computed using income statement that group together a business's fixed and variable costs. For example let’s say for each additional unit that the company is able to sell during the period the period of sales, in contribution margin that additional money from that sale will become available to help cover the fixed expenses. If a second unit is sold, then the total contribution margin will increase by $100 and the company's loss will decrease by $100. If the company can sale enough units can be sold to generate enough profits in contribution margin, then all of the fixed cost will be covered and the company will...