Contribution margin shows the revenue remaining after the variable costs associated with the selected sales. It helps assess how a product family contributes toward fixed costs and profit, but it is not interchangeable with gross or net profit.
Define which costs vary with the decision and use a consistent period. Include relevant discounts, variable freight and selling costs where appropriate. Keep allocated fixed overhead separate when the question concerns the incremental effect of additional sales.
For example, a unit selling for 100 with variable costs of 65 has a contribution of 35 and a contribution margin ratio of 35%. If 35,000 of fixed costs must be covered in this simplified single-product model, break-even volume is 1,000 units.
Review product mix, capacity constraints and the effect of changes in volume. A high contribution per unit may be less attractive if it uses a scarce resource inefficiently. State the model's assumptions before using it to approve pricing or discontinue a product.
Open Sources Used
This page uses open and institutional references as a frame; the final decision still belongs to the company record, threshold and owner.
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Reading adjacent decision areas keeps the topic from becoming an isolated note.