Contribution Margin Ratio

Also known as the dollar contribution per unit, the contribution margin ratio represents the incremental money generated for every unit, whether it’s a product or commodity. 

The contribution margin ratio is calculated using a simple formula. The variable cost per unit is subtracted from the selling price per unit equal to the contribution margin ratio. The use of this calculation goes a long way, but the main purpose behind it is to see the profitability of products in the business. For example, if a product takes 10 percent of the workforce and energy of your business but only brings in 2 percent of the profits, the contribution margin ratio is the way to know about this. 

Contribution Margin Ratio Formula

Sales generated from a single product minus the costs of each product equal to the contribution margin ratio.

What to do with the contribution margin ratio?

As mentioned, what the contribution margin ratio tells you is the profitability per unit. It can help businesses identify whether or not a product is worth continuing. Since the contribution margin ratio includes the variable costs, it can even attribute identifying the cost of everything individual per unit. For example, when you figure out the contribution margin ratio for a machine part that you sell, you’ll factor in electricity from the payments made to the machinery to anything that goes into it.

While coming up with the contribution margin ratio of certain products might be tough – revealing if it’s worthy of your operations is a big helper for the growth of any business.