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Contribution Margin is a financial metric that helps businesses understand the profitability of their products or services. It measures the difference between the selling price and the variable costs associated with producing a product or delivering a service. This metric is particularly useful for determining the break-even point and making informed decisions about pricing, production levels, and product mix. In this article, we'll show how to calculate the Contribution Margin, discuss its importance, and suggest strategies for improvement.
Here's the Contribution Margin formula:
Contribution Margin = Selling Price - Variable Costs
Let's consider a real-world example of a company that manufactures and sells custom t-shirts. We'll use the following data to calculate the Contribution Margin:
Calculate the Contribution Margin per t-shirt by subtracting the variable costs from the selling price:
Contribution Margin = Selling Price - Variable Costs
Contribution Margin = $25 - $15
Contribution Margin = $10
This means that for each t-shirt sold, the company generates $10 in profit after accounting for the variable costs.
Understanding Contribution Margin is essential for businesses for several reasons:
Here are some strategies that can help improve your Contribution Margin:
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