Contribution margin ratio: Difference between revisions
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'''Contribution margin ratio''' measures the percentage of sales that would increase net income. It can be calculated by dividing the contribution margin by sales, either<ref>M. P. Holtzman, 2013, p. 181</ref>: | '''Contribution margin ratio''' measures the percentage of sales that would increase [[net income]]. It can be calculated by dividing the contribution margin by sales, either<ref>M. P. Holtzman, 2013, p. 181</ref>: | ||
* in total | * in total | ||
* per unit. | * per unit. | ||
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==Contribution Margin Ratio in Strategies of Developing Business== | ==Contribution Margin Ratio in Strategies of Developing Business== | ||
Also useful in developing business strategies is the contribution margin ratio. Assume, for example, that a [[company]] has a high contribution margin ratio and produces less than 100 percent of capacity. In this scenario, from an increase in sales size, a significant increase in revenue from operations can be expected. The company could consider carrying out a special sales campaign to increase sales. On the other hand, a business with a low contribution margin ratio would likely want to pay more attention to [[cost]] [[management]] before trying to promote sales<ref>J. Reeve, C. Warren, J. Duchac, 2011, p. 974</ref>. | Also useful in developing business strategies is the contribution margin ratio. Assume, for example, that a [[company]] has a high contribution margin ratio and produces less than 100 percent of capacity. In this scenario, from an increase in sales size, a significant increase in revenue from operations can be expected. The company could consider carrying out a special [[sales campaign]] to increase sales. On the other hand, a business with a low contribution margin ratio would likely want to pay more attention to [[cost]] [[management]] before trying to promote sales<ref>J. Reeve, C. Warren, J. Duchac, 2011, p. 974</ref>. | ||
==References== | ==References== | ||
Revision as of 02:45, 20 January 2023
| Contribution margin ratio |
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Contribution margin ratio measures the percentage of sales that would increase net income. It can be calculated by dividing the contribution margin by sales, either[1]:
- in total
- per unit.
The contribution margin ratio is most useful when the increase or decrease in sales volume is measured in sales dollars. In this case, the change in sales dollars multiplied by the contribution margin ratio equals the change in income from operations[2]. The contribution margin should be relatively high, as it should be sufficient to cover both fixed and operating overhead expenses. If the contribution margin ratio is excessively low or negative, continuing to sell a product at that price point would be unwise, as the company would have considerable difficulty in earning a long-term profit. Nevertheless, there are situations where it may be reasonable to sell a bundle of goods and/or services where there is a negative contribution margin for individual items in the package, as long as the contribution margin for the package is positive. The ratio is also useful in determining the revenue from different sales rates.
Formula of the Contribution Margin Ratio
The formula of the Contribution Margin Ratio is presented as [3]:
Contribution Margin Ratio in Strategies of Developing Business
Also useful in developing business strategies is the contribution margin ratio. Assume, for example, that a company has a high contribution margin ratio and produces less than 100 percent of capacity. In this scenario, from an increase in sales size, a significant increase in revenue from operations can be expected. The company could consider carrying out a special sales campaign to increase sales. On the other hand, a business with a low contribution margin ratio would likely want to pay more attention to cost management before trying to promote sales[4].
References
- Albrecht W., Stice J., Stice E., Swain M., (2007)., Accounting: Concepts and Applications, United States of America
- Davis C. E., Davis E. B., (2010)., Managerial Accounting for Strategic Decision Making, Preliminary Edition, John Wiley & Sons, United States of America
- Heisinger K., (2009)., Essentials of Managerial Accounting, Cengage Learning, United States of America
- Holtzman M. P., (2013)., Managerial Accounting For Dummies, John Wiley & Sons, United States of America
- Reeve J., Warren C., Duchac J., (2011)., Accounting Using Excel for Success, Cengage Learning, United States of America
- Warren C., Reeve J., (2006)., Managerial Accounting, Cengage Learning, United States of America
Footnotes
Author: Aleksandra Walawska
