Contribution Margin in Cost-Volume-Profit Analysis:

Variable costs vary directly with the revenue. Therefore the generation of an additional amount of revenue is connected with the generation of variable costs. The data for Quality Ice-cream Company shows that the variable cost equals 76.5% of the firm's revenue. Therefore revenue of Rs.100 earned by the company comprises Rs. 76.5 as the amount to be paid by the company in order to cover the associated variable costs. Remaining amount of Rs.12.75 is called as the contribution margin.

The contribution margin is refers to the amount of revenue left after the deduction of variable costs. This portion of the revenue is utilized to cover the fixed costs and provide the operating profit, in case, all of the fixed costs have been covered.

Contribution margin may be expressed in various ways as in terms of total monetary sales (that means revenue-variable cost), in terms of per unit basis (sales price per unit - variable costs per unit), or as the percentage of total sales. Contribution margin ratio or contribution rate is described as the contribution margin expressed as a percentage of sales. The formula for its computation is such as:

Contribution Rate = (Unit sales price - Variable costs per unit)/Unit sales price

Contribution rate of Quality ice-cream is estimated such as:

Contribution Rate = (50.0 - 37.25)/50.0 = 25.5%

A contribution rate of 25.5% mentions that 25.5% of the revenue is available to cover the fixed costs and to contribute towards the operating income. Remaining revenue is consumed by the variable costs.