Contribution margin is important for helping businesses determine the profitability of products. The concept has become a fundamental business practice that identifies the amount of revenue a sold product generates for a business. This concept is used in cost accounting and also identifies revenue remaining after variable expenses.
Contribution margins are important for reducing various costs associated with sold products. This concept helps businesses understand how to cover fixed costs in order to earn a desired profit. Moreover, contribution margins allow a business to determine how to manipulate sales volume and selling price to earn this profit. This concept revolves around variable expenses associated with the sales of products.
Variable expenses are any costs not incurred when the product is not delivered to the customer and include any costs related exclusively to the product. For example, these costs include any labor required to manufacture the product, marketing and transportation of the product. The cost of supplies needed to package the product or deliver the product are also included.
The contribution margin is the sales price minus the variable expenses. This concept helps businesses understand how to optimize production levels, reduce fixed costs, increase products sold and make a profit from sold products.