A contribution margin is the price share of a product after deducting the direct costs as raw material. That's how much to spare to pay fixed costs and generate profit for the business. From it, one discovers the amount of sales necessary to reach the breakeven.
In this article we will talk about:
- How much for your company to pay fixed costs and make a profit
- After all, what is the contribution margin
- Knowing the margin of contribution, let us go to the Point of Equilibrium
- How about an exercise?
- To help you in practice
See also: Pricing Manual
Often speaking of contribution margin (MC), break-even point or other financial indicators may leave you somewhat confused. The truth is that many entrepreneurs and entrepreneurs end up forgetting to analyze these numbers when it comes to pricing their products or services. The problem is that it is essential to understand whether your business is profitable or not and how much it can improve. But not to get too abstract in the beginning, let's understand the margin of contribution ...
Basically, quite simply, margin of contribution is how much of revenue to pay the fixed costs and consequently make a profit after sales, that is, it indicates how much revenue is left after the direct costs discount. It can be classified as unit contribution margin, when the analysis is made solely on a product / service or total, when it is made for all its production / productive capacity.
Your contribution margin can also be calculated in percent (although I find it more complex and difficult to understand in this way). Let's look at an example of Contribution Margin Calculation Worksheet and LUZ Balance Point:
As you can see, after calculating your revenues, minus the direct costs, you can already see your contribution margin. In this case, we are seeing the total contribution margin. That means if your fixed costs were larger than $ 6000, you would have been suffering ... Did you begin to understand the importance of this small calculation? One must be aware of the fact that "Product does not make a profit. Product gives margin of contribution. The company as a whole is supposed to make a profit. "
Let's take a look at how to do it without the spreadsheet, just using your same notebook:
MC = PV - (CV + DV)
Where: MC = Unit contribution margin; PV = Unit Sale Price; CV = Unit variable cost or Cost of Goods Sold (CMV) and DV = Unit variable cost. If you want to transform this into the whole company, simply multiply all the values by the quantity produced or offered services.
So if for example your company sold shirts and we had the following information:
- The shirt price is R $ 70
- We sold 50 shirts in the last month
- The cost of the shirt directly from the supplier is R $ 30
- We have 10%
- We have commissions from 3 vendors%
Let's do the math for the whole company?
Revenue = R $ 70 x 50 = R $ 3.500
Variable Cost = R $ 30 x 50 = R $ 1.500
Variable Expenses = (R $ 70 x 50 x 0,1) + (R $ 70 x 50 x 0,03) = R $ 350 + 105 = R $ 455
Then, the calculation of Contribution Margin would be: MC = R $ 3.500 - (R $ 1.500 + R $ 455) = R $ 1545. It seems harder than it is, does not it? It is this kind of calculation that will allow you to understand what the ideal sales price is and if you can generate the necessary sales volume for your financial sustainability.
Break Even, also known as Break Even Point, is the indicator that tells you how much you need to bill in a month to tie the company accounts from zero to zero. In a simple way, calculating the break-even point allows you to know the number of units that must be sold to achieve the "financial tie". Theoretically, if your company sells that particular number of units, it will make R $ 0,00 profit / loss in the period in question.
This type of information is essential to analyze the viability of your business. If, for a little bit or another, your equilibrium point is impossible if you can achieve it with your production capacity, something needs to be done. Let's see another example, this time from Balance Calculation Worksheet from LUZ:
In this case, after making the account (direct revenues), we realized that there was left over $ 9.500 to pay the fixed costs (which in this case were $ 8.800), indicating that there was $ 700 of profit left. The cool thing is that in a simple way we can understand how to do the balance point calculation.
These are the simplified data for a company that sells jewelry:
- The price of the jewelry is R $ 1000
- The company has sold 300 jewelry in the last month
- The cost of jewelry direct from the supplier is R $ 250
- We have 20%
What is the unit and total contribution margin? Just answer here in the comments I tell you whether it's right or not.
Although it has a complicated name and does not mean so much in the first analysis, the contribution margin is too important for your business and therefore needs to be taken into account when you are defining your business. pricing strategy. So remember that:
- Unit Contribution Margin = Unit Sales Price - (Unit Variable Costs + Unit Variable Expenses)
- When thinking about your selling price, remember to evaluate the margin of contribution and the reflexes that this will provoke in the necessary volume of sales and not according to the price of the competition;
- Identify the minimum sales volume required to pay (breakeven) and eventually how much to sell to get the profit you want.
If you liked the theme but were not yet familiar or would like to have practical management tools to do the calculations without work, I have a worksheet that might interest you: