Question

Refer to the manufacturing company you selected for the Unit 2 Discussion and explain how you would determine the company’s contribution margin and contribution margin percent. In your initial post include the following: Identify which specific variables should be included in the calculation. Illustrate your explanation by calculating the contribution margin and contribution margin percent using hypothetical values. Explain what your calculated results tell you about the company’s sales and cost structure.

Answer 1

I am not sure if the question is incomplete. However, basis my understanding, I shall answer the relevant parts.

Contribution margin (CM) is the amount by which sales revenue exceeds variable costs. It is the net amount that sales ‘contribute’ towards periodic fixed costs and profits. i.e. CM = Sales - Total Variable costs

Contribution margin ratio is the expression of the contribution margin in terms of a percentage of a price. Therefore, the contribution margin is shown in dollars and the contribution margin ratio is demonstrated as a percentage.

i.e. CM ratio = (Sales - Variable expenses)/Sales

Variable costs are costs which vary directly with sales. Variable cost may be direct as well as indirect. Direct variable costs include direct material cost and direct labor cost. Indirect variable costs include certain variable overheads. These costs are to be added while determining Contribution margins.

Contribution margin is an important input in calculation of breakeven point, i.e. the sales level (in units and/or dollars) at which a company makes zero profit.

Breakeven point (in units) = Total fixed costs / contribution margin per unit

Breakeven point (in dollars) = Total fixed costs / contribution margin ratio.

Examples:

1. The ABC Company sells shoes to specialist industries. It sold $20,000 worth of shoes in its most recent period with variable costs of $8,000. The Sole Shoe Company has fixed expenses of $13,000, resulting in a loss of $1000.

Revenue $20,000
Variable expenses $8,000
Contribution margin $12,000
Fixed expenses $13,000
Net loss $1000

The Company’s contribution margin is $12,000. Therefore, the contribution margin ratio is 60%. The Company will have to decrease its fixed expenses or increase its sales for it to break even.

2. Music Co. sells one set of headphones for $40. The variable costs, which include direct material, direct labor, and variable selling (per headphone unit) is $25.

Contribution margin = $40 – $25 = $15.

For every set of headphones that the company sells, $15 will go towards their fixed costs.

To calculate the company’s contribution margin ratio, we use the contribution margin per set of headphones and divide it by the price per set of headphones, which is $15 / $40 = 37.5%.

The company’s contribution margin ratio tells that, for every dollar of revenue a set of headphones makes, 37.5 cents or 37.5% is the contribution margin. The owner can decide to either use this 37.5% contribution margin to pay fixed costs or to produce a profit.