One of the best sources of inspiration for my blogs is actual learning moments coming directly from the classroom. This afternoon one of my teams engaged in a very complex high-tech industry business simulation asked for a “micro-lesson” around the concept and importance of the Contribution Margin. I shared some insights with the participants, and I promised I would turn the conversation into a blog.

What is Contribution Margin?

At the highest level, Contribution Margin is a financial metric used to assess the profitability of a product, service, business line, or an entire business.

Conceptually, it presents the amount of revenue remaining after variable costs have been subtracted, which contributes to covering fixed costs and generating profit.

Here's a breakdown of what you should know about Contribution Margin:

• Definition: Contribution Margin (CM): Is the difference between sales revenue and variable costs.
• Formula: Contribution Margin = Sales Revenue - Variable Costs

Key Concepts

Here are two important key concepts related to understanding Contribution Margin; variable costs and fixed costs:

• Variable Costs: Costs that vary directly with the level of production or sales volume (e.g., raw materials, direct labor, sales commissions).
• Fixed Costs: Costs that do not change with the level of production or sales volume (e.g., rent, salaries, insurance).