Glossary · UK
What is Contribution Margin?
The amount left from sales revenue after variable costs, available to cover fixed costs and generate profit.
Full Definition
Contribution margin is the amount remaining from a product or service's sale price after subtracting only its variable costs (the costs that rise and fall directly with volume, such as raw materials, packaging, and sales commission), leaving the portion that "contributes" towards covering the business's fixed costs (rent, salaries, insurance) and, once those are covered, towards profit. It differs from gross profit margin, which typically also deducts some costs that do not vary directly with volume, so contribution margin is specifically designed to answer questions like "how much extra profit does one more sale generate?" and is central to break-even analysis, since dividing total fixed costs by the contribution margin per unit shows how many units need to be sold before the business covers its fixed costs and starts making a profit. A high contribution margin percentage means each additional sale contributes strongly towards fixed costs and profit once those costs are covered, while a low contribution margin means a business needs high sales volumes to become profitable, which matters for pricing decisions, deciding whether to accept a discounted bulk order, and choosing which products or services to prioritise when capacity is limited.
How Contribution Margin is calculated
Contribution margin = Sales revenue - Variable costs- Sales revenue
- Total income from sales of a product or service.
- Variable costs
- Costs that rise and fall directly with the volume produced or sold, e.g. materials, packaging.
Worked example: A product sold for GBP 50 with GBP 30 of variable cost per unit has a contribution margin of GBP 20 per unit, or 40% as a contribution margin ratio (20 / 50 x 100).