Organizations and businesses use contribution margin to make pricing decisions. Contribution margin gives a company or business a measure of profitability of a product line. These measures and decisions are vital for a business or company to maximize profits.
What is contribution margin?
Contribution margin is a measure of the ability of a company to cover variable costs with revenue. In addition, the amount leftover is the contribution margin, which can be used to cover fixed costs or is profit.
In this simple example, we can see that we are subtracting the variable expenses from the sales to calculate the contribution margin.
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The break-even point is where a business makes enough money to cover their expenses. After that point, the business begins to create contribution margin. This can be used to pay other expenses or as profit.
Compare this example to the simpler one on the left. In the first part of the example, we can see that we totaled the variable expenses and subtracted the total from the sales. The only difference between this example and the simpler one is that is contains more details.