How to Calculate Unit Contribution Margin

Contribution margin is basically the difference between the sales revenue and the variable cost generated by a company. It basically depicts the amount of cash a business will need to take care of its fixed costs, after accounting all variable expenses. The remaining amount can further be considered as the company’s profit.

It is an important tool for businesses in terms of deciding whether the production of a product is worth continuing, and whether variable expenses attached to it should be reduced or increased, along with the final price. If the product is deemed unprofitable, production can be stopped or removed altogether from the existing product line.

The basic formula for calculating Contribution margin is (Total Sales – Variable Cost).  Variable cost will have different computations and can be categorized as Direct and Indirect. The former will include direct material cost as well direct labour cost, while the latter will incorporate variable overheads.

Instructions

  • 1

    Firstly determine the Contribution margin in total.  Say for instance the company has sold 100 items, worth $ 5 each. Multiplying the two values will give you the dollar amount, which in this case will be –  ($ 5 x 100) = 500. Now you will need to determine the total variable expenses. For simplicity, let assume that the company pays $2 per 100 items in Direct Labour and $ 1 per 100 items in Direct Material cost.

    Adding the two expenses after multiplying will give us the variable count. ($2x100)+ ($1x100) = 300

    Subtract this amount from the total sales to calculate total contribution margin: $500-300=$200

  • 2

    Now determine the per unit contribution margin. Knowing the unit price will make the task easier for you. In this example if the company produces 100 items, then divide the total variable amount with the number of items produced to compute the unit variable cost, which in this case is $ 3 (300/100).

    Simply subtract this per unit cost with the sales per unit, which in this example is $ 5. Your per unit contribution margin will be $2. Multiply this with the number of items will again give us total contribution margin $2x100=$200

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