courses › Business Math

Contribution Margin

level 14 course

What each sale leaves over to pay the fixed bills and make a profit.

In your head, jot if needed · no calculator why?

Opens at level 14.

Builds on: Fixed, Variable & Step Costs (not open yet)

the lesson

The idea, the techniques and a tip for each skill, right here. The Learn page adds worked examples for every skill and untimed practice.

Read the lesson · about 3 minutes

The idea

Contribution is what a sale leaves after its variable costs, the costs that come with each sale. It is not profit yet. All the contributions together first pay the fixed costs, like rent; what is left is operating profit.

Greenline, a made-up plant-care business, charges $500 a month and spends $200 serving each customer, so each contributes $300. Forty customers contribute $12,000, and after $6,000 of fixed costs the profit is $6,000.

The contribution margin ratio is contribution ÷ price: 60% here. Gross profit is a different number: revenue minus cost of goods sold.

Techniques

Price minus every variable cost

What one sale contributes.

Add up every cost that comes with each sale.
Subtract that total from the price.
Leave out fixed costs like rent. They do not come with each sale.

worked example

Example: A service sells for $240. Variable costs are $70 of materials and $30 of travel per job. Rent is $1,200 a month. What does each job contribute toward fixed costs and profit?

Variable costs: $70 + $30 = $100.
$240 − $100 = $140. Rent stays out.

Answer: $140

Contribution as a share of price

The contribution margin ratio.

Contribution: price minus variable cost.
Divide it by the price, not by the variable cost.
The percent says how many cents of each sales dollar are left for fixed costs and profit.

worked example

Example: A cleaning visit sells for $80 and uses $20 of variable costs. What is its contribution margin ratio, as a percentage?

$80 − $20 = $60.
$60 ÷ $80 = 0.75 = 75%.

Answer: 75%

Then take off the fixed costs

Operating profit from customers, price and costs.

Contribution per customer × the number of customers.
Subtract the fixed costs.
If the fixed costs are bigger, it is a loss: use a minus sign.

worked example

Example: 25 customers each pay $400 a month and each costs $150 in variable costs. Fixed costs are $5,000 a month. What is monthly operating profit?

Each contributes $400 − $150 = $250.
25 × $250 = $6,250.
$6,250 − $5,000 = $1,250.

Answer: $1,250

Tips by skill

TipContribution per sale: Subtract every variable cost from the price. Rent is fixed, so leave it out.
TipContribution margin ratio: Divide the contribution (price minus variable costs) by the price.
TipOperating profit from contribution: Contribution per customer × customers, then subtract the fixed costs. Use a minus sign for a loss.
TipContribution, gross profit, or net income?: Name what was taken away: variable costs (contribution), cost of goods sold (gross profit), operating expenses (operating profit), interest and taxes (net income).

Watch out for

Subtracting a monthly cost like rent from a single sale. Fixed costs come out of the total, once.
Calling contribution profit. Greenline contributes $12,000, but its profit is $6,000 after fixed costs.
Giving the variable-cost share as the ratio, or dividing by the variable cost. The ratio divides contribution by price.
Mixing up the subtotals. Revenue minus cost of goods sold is gross profit; minus operating expenses, operating profit; minus interest and taxes, net income.

skills · practice stats

From rounds of this course only: box, review and test-out answers are left out. Once a skill has 40 tries, it compares your first 20 tries with your last 20.

Contribution per sale par 14 s not tried yet
worked example
A product sells for $980. Variable costs are $332 of materials and $211 of packaging per unit. Rent is $3,000 a month. What does each unit contribute toward fixed costs and profit?

Answer: $437.00
1. Contribution = price − all variable costs = $980 − ($332 + $211) = $980 − $543 = $437.
2. Rent is fixed, so it isn't subtracted per unit.
Contribution margin ratio par 14 s not tried yet
worked example
A lawn-care plan sells for $170 and uses $68 of variable costs. What is its contribution margin ratio, as a percentage?

Answer: 60%
1. Ratio = contribution ÷ price = ($170 − $68) ÷ $170 = $102 ÷ $170 = 60%.
2. Each sales dollar leaves 60 cents for fixed costs and profit.
Operating profit from contribution par 17 s not tried yet
worked example
153 customers each pay $800 a month and each costs $460 in variable costs. Fixed costs are $4,000 a month. What is monthly operating profit?

Answer: $48,020.00
1. Total contribution = 153 × ($800 − $460) = 153 × $340 = $52,020; minus fixed $4,000 = $48,020.
Contribution, gross profit, or net income? par 15 s not tried yet
worked example
A $1,650 contract has $540 of costs that rise and fall with each customer. What is the $1,110 difference called?
1. Contribution
2. Net cash flow
3. Net income
4. Gross profit
Answer: Contribution
1. Price minus the costs that move with each unit is contribution: $1,650 − $540 = $1,110.
2. Gross profit subtracts cost of goods sold instead, which can include some fixed costs, so the two can differ.

rest ladder

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